The purpose of Variation Margin is to ensure that any profits or losses on a portfolio are “up to date” by “marking to market”.
There are two styles of Variation Margin:
- Realised – profits and losses are paid in cash, in the currency of the contract. This is applied to all futures and future style options, as well as cleared OTC products.
- Contingent – theoretical profits and losses are calculated. Examples include Option Value and Discount Contingent Variation Margin for Forwards. Losses must be covered in the same way as other margin requirements. Profits can be used to offset margin requirements in the same way as collateral.
Whether Variation Margin is Realised or Contingent is determined by a combination of the contract specification and the CCP rules.
Variation Margin is calculated by looking at the change in prices or rates between yesterday and today. CCPs will monitor these, and their impact on margin, on a continuous basis.
- If the total margin increases too much then there will be an intraday margin call – based on any change in Initial Margin and the potential end of day Variation Margin.
- Big price moves will result in a review of the margin parameters for scenario based Initial Margin algorithms such as SPAN. For FHS VaR based algorithms the price moves will have a direct impact on the scenarios used in the calculation.