NSE Quotes – Different types of Margins/Volatility

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As you all know there are uncertainties in the movement of share prices. These uncertainties may arise from global economical, local political or economical conditions. When there are uncertainties there are risks associated with them. 

You need to pay some amount of money upfront to your broker to buy or short sell securities. This amount is called margin. You will need to pay the remaining amount on T+2 day. Margin payments ensure that each investor is serious about buying or selling shares. 

Let’s take an example. An investor buys 100 shares of Infosys at Rs2000 per share. The total amount is Rs 2L. Let’s say the investor paid a margin amount of Rs30,000 to buy those shares. If the share price falls by Rs500 on the next day, the notional loss for the investor will be 500 * 100 = Rs 50,000, which is greater than the margin amount paid. So there is a chance that the investor may not pay the remaining amount. The broker is at risk in this case as there is an obligation for him to pay that amount to stock exchange.

Similarly in case of selling if the stock price goes up by Rs500 then the seller may not want to sell. To avoid such type of risks proper analysis was made by the exchanges and they introduced the following margins in Cash segment. 

  • Value at Risk (VaR) Margin
  • Extreme Loss Margin
  • Mark to Market Margin

 Before starting the details first will understand the meaning of the term ‘Volatility’.

Volatility refers to uncertainty arising from the price changes of shares. Volatility can be calculated by the standard deviation of the day wise returns from a share. The return  from a share is calculated as 

 LN(Today’s Close Price/Yesterday’s Close Price)                                                                                                                                      LN is natural Logarithmic function.

You can calculate this volatility by the in-built functions of MS Excel. Write down day wise close prices of a share in one column. Apply LN function on second column second cell as =LN(A2/A1) . It gives the second day return. Copy the value and apply the formula to all other cells in the second column (right click -> paste special -> formulas).

Then you can use the STDEV function in excel on these values to get the standard deviation of returns. Multiply the value obtained with 100 to get the percentage value and this is the volatility. Since we have used historical values this is ‘Historical Volatility’

A stock with higher changes in the price has higher volatility. Volatility can’t be used for determining the direction of price. It tells how fluctuant the stock is either upwards or downwards. 

Volatility affects margins. Higher the volatility higher will be the margin that needs to be paid upfront. 

Please read the articles NSE Quotes – VaR Margin, NSE Quotes – Extreme Loss Rate articles for details of different margins in Cash market.

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