Worked scenario: a single position reaches close out

The account at the moment the position opens 

The scenario is the simplest one that can reach a close out. One deposit, one position, and no second trade at any point in the sequence. Costs are excluded throughout, so nothing below is caused by spread, commission or a financing adjustment, and every movement in every field traces back to the price and to nothing else. That is not what an account looks like in practice. It is the arrangement that makes the mechanism legible, because with one moving part a movement cannot be attributed to the wrong cause.

Three quantities fix the starting state and everything else is derived from them. The balance is the settled cash. The position has a face value, its number of units multiplied by the price at which it opened. The margin requirement is the percentage of that face value held while the position is open, and applying it gives the used margin. Equity, free margin and margin level are then read off those three, in the order the platform calculates them.

Two things in that block matter before the price moves. The account is committed to the used margin rather than to the face value, and the gap between the two is what lets the sequence below run as far as it does before anything happens at all. And equity begins exactly equal to the balance, because at the instant a position opens there is nothing unrealised to add. From the next update onward those two figures are never the same again until the position is closed.

What each price does to the panel 

From here nothing is traded and nothing is decided. The price moves and the panel is restated. Of the five figures, two hold still and three move. The balance holds still because nothing has been realised, and the used margin holds still because the position has not changed size and its requirement was fixed at the opening price. Equity, free margin and margin level all move on every update, driven by one quantity between them: the unrealised result of the single open position.

That single dependency is why the ladder below is so uniform. An equal step in price produces an equal step in the unrealised figure, and therefore in equity, in free margin and, because the denominator is held constant, in the percentage as well. Uniformity is a property of this simplified case rather than of close outs in general. On an instrument whose requirement is recomputed from the prevailing price, the denominator moves too and the percentage does not fall in even steps.

Where free margin runs out 

One row in that ladder deserves to be pulled out on its own. At one price in the descent the free margin reads exactly zero and the margin level reads exactly one hundred percent, and those are not two coincidences that happen to land together. They are the same statement written two ways. Free margin is equity less used margin, so it reaches zero when equity equals used margin. Margin level is equity divided by used margin, so it reads one hundred percent when equity equals used margin. The identity holds for every account, every position and every size, and it never needs to be checked.

In plain terms that row is where the account has run out of capacity. Nothing further can be opened, because there is nothing left over the used margin to hold against it. The position already open is unaffected: no instruction has been issued and no field has changed except by arithmetic. An account can sit at that row for a long time, and it can climb out of it on the next price update.

A margin call is the state entered when the percentage falls to a level a firm has stated in its own terms, and setting that level at the point where free margin reaches zero is a common convention rather than a universal one. Some firms set it above that point, some below, and some issue no separate warning state at all. Two limits travel with it wherever it is set. It is a notification rather than an action, so no position closes because a margin call occurred. And it is evaluated against the prevailing price, so a market moving quickly enough can pass through the warning level and the close out level between two updates, which is the case where a warning arrives with nothing left to warn about.

Below that row the ladder simply keeps going, and free margin becomes negative. A negative free margin is not an overdraft and nothing has been borrowed. It states one fact and no more: equity has fallen below the amount being held against the open position. Because profit and loss are calculated on the full face value of the contract rather than on the margin held against it, there is nothing in that arithmetic that stops when the margin is exhausted, and losses are therefore not limited to the amount deposited.

The two thresholds located as prices 

The ladder was built forwards, by choosing prices and computing the fields. The same arithmetic runs backwards, and running it backwards is what turns a threshold from a number on a panel into a price on a chart. A threshold stated as a margin level states an equity, because equity is the only unknown in the fraction once the used margin is fixed. The balance less that equity is the loss that reaches it. That loss divided by the number of units is the distance in price, and the distance taken off the opening price is the price itself.

Both prices in that block were already sitting in the ladder, which is the point of computing them a second way. Nothing was discovered. The thresholds are not events arriving from outside the account, they are two particular prices among all the others, and the only thing distinguishing them is that the platform is watching for them. On a YAL account the stop out level, the lower of the two, is a margin level of 50%. The warning level above it is a separate figure, set in a firm's own terms, and the two are not the same number and are never assumed to be.

The close out, and the balance afterwards 

At the close out level the platform closes the position itself, and three things happen in the same instant. The unrealised result stops being unrealised and is applied to the balance. The used margin is released, because there is no longer an open position for it to be held against. And equity, having been the balance plus an unrealised figure for the whole sequence, becomes the balance again.

The closing balance has a shape worth naming, because it is the same for every account that reaches a close out on these assumptions. What survives is the equity the threshold defines, which is the stated fraction of the used margin, and nothing else about the account enters it. Neither the opening balance nor the face value appears in it. A close out at a level of half leaves half of the used margin behind, whatever the account started with, which is why the next section can change the position size and predict the answer before computing it.

One qualification sits on all of it, and it is not a small one. A close out is an instruction to close at the price available, not at the price the threshold names. Between the update that breaches the level and the fill the market can move, and in a gapping or fast market a position can close materially worse than the threshold implies. The surviving balance is then smaller than the arithmetic above, and where the gap is large enough it can be negative. The scenario computes the mechanism, not the fill.

The final row restates the result as a proportion, which is what connects this scenario to the lesson before it. The gain required to return the balance to where it started is not the same size as the fall that produced it, because it is calculated on the smaller figure.

The same account with a smaller position 

Nothing about the account changes in this last comparison. The same deposit, the same instrument, the same margin requirement, the same thresholds and the same price falling in the same direction. Only the number of units is different, and it is halved. Because the used margin is a percentage of the face value, halving the size halves the used margin with it.

Two results in that block point in opposite directions, and reading only one of them is how the comparison gets misused. The distance to the close out did not double when the size was halved. It grew by more than that, because the equity the threshold demands fell with the used margin while the balance did not fall at all, so the loss the account can absorb grew at the same time as the loss each price step produces shrank.

The second result cuts the other way and is usually left out. The balance surviving the close out is smaller, not larger, because what survives is the stated fraction of the used margin and the used margin is now half what it was. The smaller position travels much further before it is closed and leaves less behind when it finally is. A comparison quoting the distance without the residue, or the residue without the distance, is describing half of the arithmetic.

Where practitioners disagree 

There is a genuine and unresolved argument about what a close out level is for. One tradition describes it as a backstop, a floor the account cannot fall through, and points to the residue in the block above as evidence that something is preserved rather than nothing. The objection is in the previous section: the level names a price the mechanism aims at, not one it can promise, and a market that gaps through it settles the position wherever the market is. A floor that can be passed through is not a floor, and the word invites a confidence the mechanism does not support.

A second argument concerns the backwards calculation itself. One school treats the distance to the close out as a figure worth deriving before a position is opened, on the grounds that a number computed in advance is a different object from one read off a panel under pressure. The counter argument is that the derived distance is only as stable as its inputs, and its inputs are not stable: the requirement can be changed by the counterparty, an instrument whose requirement is recomputed from the prevailing price moves the denominator as the price moves, an overnight financing adjustment reduces equity with no price move at all, and a second position rewrites the whole fraction. Traders who hold this view treat the result as an order of magnitude rather than a level.

What both sides agree on is narrow, and it is the part that is arithmetic rather than opinion. The close out level is evaluated on margin level, margin level is driven by equity, and equity is driven by the full face value of what is open. Everything after that, including what the mechanism should be called and how much weight a computed distance should carry, is a question this page does not answer for anybody.