Cross-margining
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Hedge Funds & Prime Brokerage Anatomy™ A Jolly Contrarian owner’s manual™
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The process, common in prime brokerage, of calculating required initial margin by reference to net exposure across all products, rather than in silos where outstanding transactions under each master agreement are margined separately.
Cross-margining is often seen under a prime brokerage agreement, which acts as a security deed over all clients assets that the prime broker holds in custody, and also often functions as a master netting agreement sitting across and cross-netting exposures under distinct master agreements that may exist between the parties alongside the PBA (for example, an ISDA or a futures clearing agreement).
Example
Say a prime brokerage client has long custody assets of $100m and cash balance of $100m against a margin loan balance of $60m — therefore $140m in equity in its physical prime brokerage account. The broker applies a 30% financing haircut to the $100m of custody assets, meaning they have a credit value of $70m.
Meanwhile, under its ISDA Master Agreement, it has a notional portfolio of $100m that is out of the money by $20m, generating an $30m initial margin requirement and a variation margin requirement of $20m.
Ordinarily, the customer would have to post $50m in margin under the swap. However, since the client has $100m in equity, the prime broker debits 50m from its cash account, leaving the client with a net equity of $50m across both accounts.
| Item | Positive Value | Negative Value | Haircut | Financing Value |
|---|---|---|---|---|
| Long Assets | 100,000,000 | - | 30% | 70,000,000 |
| Cash | 100,000,000 | - | 100% | 100,000,000 |
| Loan | - | (60,000,000) | - | (60,000,000) |
| Swap IM | - | (30,000,000) | - | (30,000,000) |
| Swap VM | - | (20,000,000) | 100% | (20,000,000) |
| Total | 200,000,000 | (110,000,000) | - | 60,000,000 |