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No Margin For Error With Options Expiration
November 1, 2021
Today's blog involves a margin call generated when an underlying stock fell dramatically in price and the customer was on the wrong-side of the trade with options. A sell-out ensued, which prompted a negative balance in the customer's margin account. The customer blames TD Ameritrade. The firm blames the customer. The customer sued. The brokerage firm counter-claimed.
Case in Point
In a FINRA Arbitration Statement of Claim filed in September 2020, public customer Claimant Simmons, representing himself pro se, asserted negligence; breach of contract; and breach of the covenant of good faith and fair dealing. The FINRA Arbitration Award asserts that the "causes of action relate to Nvidia stock." Claimant Simmons sought $100,000 in damages and an order preventing Respondent TD Ameritrade from "seeking to collect any account deficiency from Claimant." At the hearing, Claimant reduced his damages request to $86,347. In the Matter of the Arbitration Between Matthew Simmons, Claimant, v. TD Ameritrade, Inc., Respondent (FINRA Arbitration Award 20-03160)
https://www.finra.org/sites/default/files/aao_documents/20-03160.pdf
Respondent TD Ameritrade generally denied the allegations, asserted various affirmative defenses, and filed a Counterclaim asserting breach of contract. Respondent TD Ameritrade sought $20,157.42 in compensatory damages plus interest.
Award
The sole FINRA Arbitrator denied Claimant Simmons' claims but found him liable to and ordered him to pay to Respondent TD Ameritrade $20,157.42 in compensatory damages.
Explained Decision
In response to Claimant's request for an "Explained Decision" per FINRA Rule 12904(g), in which Respondent TD Ameritrade joined, the Arbitrator published the following explanation:
This case arises out of a margin call generated by the expiration of options that were not liquidated on expiration day. The options were filled by Respondent in Claimant's margin account. A precipitous decline in the underlying stock resulted in liquidation and the creation of a negative balance of $20,157.42 in the margin account. Claimant alleges that Respondent's action improperly created the margin deficit and sought damages of $100,000.00 (later amended to $96,347.00). Claimant is an experienced options trader who had an active self-directed account with Respondent. Claimant, for his argument, relies primarily on a footnote into the following sentence in an email from Respondent to justify his position:
"Ensure you have adequate money in your account to carry any stock positions if there is an exercise or assignment of your options"*Footnote: *As a reminder, in accordance with the Options Clearing Corporation instructions we will automatically exercise long options . . . provided the account has sufficient funds to carry the resulting stock positions . . ."
In actuality, the sell-out was in accordance with the terms of Claimant's margin agreement which gave Respondent the right to liquidate all or part of his account without prior notice in order to protect both Claimant's and Respondent's interests. In fact, Claimant had over $80,000.00 in equity in his account at the time of expiration. Claimant made no effort to contact Respondent in the period prior to the buy in and stated during the hearing that he was indecisive, made a mental mistake, and failed to realize that the underlying stock might not hold value. The losses in the account occurred because Claimant failed to take action in his self-directed account. As an experienced option trader, Claimant is responsible for knowing the terms and risks of his trading. Accordingly, the claim fails, and Respondent is entitled to recover on its counterclaim.
Bill Singer's Comment
Generally, when the equity in a margin account is deficient according to the maintenance levels in effect, your brokerage firm can sell securities in your account without your prior consent, agreement or authorization. Re-read your Margin Agreement and you will likely see that sell-out consent buried among the thousands of words. If the equity in your account falls below the legal margin maintenance requirements or the brokerage firm's "house" maintenance requirements, the firm can, without prior notice to you, sell the securities in your account to cover the margin deficiency. While many brokerage firms will send courtesy notices to clients prior to undertaking such margin liquidations, those notices are not legally required. If, however, you have negotiated a specific margin agreement that imposes different terms, that would be a different situation -- good luck trying to extract such concessions from most brokerage firms. Similarly, many customers believe that they are entitled to an extension of time on a margin call if they simply ask for one. While an extension of time to meet initial margin requirements may be available to customers under certain conditions, a customer is not legally entitled to an extension nor is a brokerage firm obligated to grant one. What if the forced sale doesn't raise enough cash to cover the debit? You may be responsible for any resulting deficiency.
SIDE BAR: The BrokeAndBroker.com Blog frequently reports about margin disputes: BrokeAndBroker.com Blog "Margin" archive
at http://www.brokeandbroker.com/index.php?a=topic&topic=margin
As the Securities and Exchange Commission warns in part in its online Investor Bulletin "Understanding Margin Accounts" (May 14, 2018)
https://www.sec.gov/oiea/investor-alerts-and-bulletins/ib_marginaccount
https://www.sec.gov/oiea/investor-alerts-and-bulletins/ib_marginaccount
Understand Margin CallsYou Can Lose Your Money Fast and With No Notice.If your account falls below the firm's maintenance requirement, your firm generally will make a margin call to ask you to deposit more cash or securities into your account. If you are unable to meet the margin call, your firm will sell your securities to increase the equity in your account up to or above the firm's maintenance requirement.However, your broker may not be required to make a margin call or otherwise tell you that your account has fallen below the firm's maintenance requirement. Your broker may be able to sell your securities at any time without consulting you first. Under most margin agreements, even if your firm offers to give you time to increase the equity in your account, it can sell your securities without waiting for you to meet the margin call.
Additionally, consider:
FINRA Rule 2264: Margin Disclosure Statement(a) No member shall open a margin account, as specified in Regulation T of the Board of Governors of the Federal Reserve System, for or on behalf of a non-institutional customer, unless, prior to or at the time of opening the account, the member has furnished to the customer, individually, in paper or electronic form, and in a separate document (or contained by itself on a separate page as part of another document), the margin disclosure statement specified in this paragraph (a). In addition, any member that permits non-institutional customers either to open accounts online or to engage in transactions in securities online must post such margin disclosure statement on the member's Web site in a clear and conspicuous manner.
Margin Disclosure StatementYour brokerage firm is furnishing this document to you to provide some basic facts about purchasing securities on margin, and to alert you to the risks involved with trading securities in a margin account. Before trading stocks in a margin account, you should carefully review the margin agreement provided by your firm. Consult your firm regarding any questions or concerns you may have with your margin accounts.When you purchase securities, you may pay for the securities in full or you may borrow part of the purchase price from your brokerage firm. If you choose to borrow funds from your firm, you will open a margin account with the firm. The securities purchased are the firm's collateral for the loan to you. If the securities in your account decline in value, so does the value of the collateral supporting your loan, and, as a result, the firm can take action, such as issue a margin call and/or sell securities or other assets in any of your accounts held with the member, in order to maintain the required equity in the account.It is important that you fully understand the risks involved in trading securities on margin. These risks include the following:
- You can lose more funds than you deposit in the margin account. A decline in the value of securities that are purchased on margin may require you to provide additional funds to the firm that has made the loan to avoid the forced sale of those securities or other securities or assets in your account(s).
- The firm can force the sale of securities or other assets in your account(s). If the equity in your account falls below the maintenance margin requirements, or the firm's higher "house" requirements, the firm can sell the securities or other assets in any of your accounts held at the firm to cover the margin deficiency. You also will be responsible for any short fall in the account after such a sale.
- The firm can sell your securities or other assets without contacting you. Some investors mistakenly believe that a firm must contact them for a margin call to be valid, and that the firm cannot liquidate securities or other assets in their accounts to meet the call unless the firm has contacted them first. This is not the case. Most firms will attempt to notify their customers of margin calls, but they are not required to do so. However, even if a firm has contacted a customer and provided a specific date by which the customer can meet a margin call, the firm can still take necessary steps to protect its financial interests, including immediately selling the securities without notice to the customer.
- You are not entitled to choose which securities or other assets in your account(s) are liquidated or sold to meet a margin call. Because the securities are collateral for the margin loan, the firm has the right to decide which security to sell in order to protect its interests.
- The firm can increase its "house" maintenance margin requirements at any time and is not required to provide you advance written notice. These changes in firm policy often take effect immediately and may result in the issuance of a maintenance margin call. Your failure to satisfy the call may cause the member to liquidate or sell securities in your account(s).
- You are not entitled to an extension of time on a margin call. While an extension of time to meet margin requirements may be available to customers under certain conditions, a customer does not have a right to the extension.
(b) Members shall, with a frequency of not less than once a calendar year, deliver individually, in paper or electronic form, the disclosure statement described in paragraph (a) or the following bolded disclosures to all non-institutional customers with margin accounts:Securities purchased on margin are the firm's collateral for the loan to you. If the securities in your account decline in value, so does the value of the collateral supporting your loan, and, as a result, the firm can take action, such as issue a margin call and/or sell securities or other assets in any of your accounts held with the member, in order to maintain the required equity in the account. It is important that you fully understand the risks involved in trading securities on margin. These risks include the following:
- You can lose more funds than you deposit in the margin account.
- The firm can force the sale of securities or other assets in your account(s).
- The firm can sell your securities or other assets without contacting you.
- You are not entitled to choose which securities or other assets in your account(s) are liquidated or sold to meet a margin call.
- The firm can increase its "house" maintenance margin requirements at any time and is not required to provide you advance written notice.
- You are not entitled to an extension of time on a margin call.
The annual disclosure statement required pursuant to this paragraph (b) may be delivered within or as part of other account documentation, and is not required to be provided in a separate document or on a separate page.(c) In lieu of providing the disclosures specified in paragraphs (a) and (b), a member may provide to the customer and, to the extent required under paragraph (a) post on its Web site, an alternative disclosure statement, provided that the alternative disclosures shall be substantially similar to the disclosures specified in paragraphs (a) and (b).(d) For purposes of this Rule, the term "non-institutional customer" means a customer that does not qualify as an "institutional account" under Rule 4512(c).