We’ve discussed margins and margin trading in a previous blog. But we didn’t dive deep into how margins are calculated and other nitty-gritty of the matter. And as Thomas Macaulay said, “Half knowledge is worse than ignorance.” So, we think it’s necessary to complete what we started.
Today let’s discuss the different types of orders you can place on a broker’s platform. But to be able to do that, first, you may need to open a trading + Demat account. There are different brokers in the market and it's your sole wish which broker to trust on. But one factor that will matter when choosing a broker is whether you opt for a full-service broker or a discount broker.
You may be wondering, what is a full-service broker and what is a discount broker.
A full-service broker lets you place trades, along with it they provide you with research reports, different calls for buying or selling securities, you can even call them and tell them to place an order on your behalf. Contrary to this, a discount broker only provides you with a trading terminal, trading account and Demat account. But a discount broker charges you way less than a full-service broker.
But let’s get back to the topic and hand and learn about all there is to know about various orders one can place when engaging the stock market.
RMS and margins
Again, moving back to what we discussed in the margin blog. Why do you think margins are charged? The whole concept of margin comes from the risk associated with a trade. If a trade is way too risky then higher margins are demanded while if it is less risky than lower margins are charged. Here’s where risk management comes into the picture. Now, this risk management is done by you from your side, but the broker too has to take into account how much risk he is willing to let you take because if you fail to pay for your losses ultimately someone will have to (broker).
For calculating these risks there is something called the Risk management department or Risk Management System (RMS) at the broker's end. Complex calculations are involved in calculating risk and all this is done within seconds by the RMS. Better the RMS system that the broker possesses, the better the broker. When you place an order, the RMS terminal of the broker knows only 3 things: the stock you want to buy, its current price and quantity. And RMS calculates the margin with this information. If you specify your order in more detail more efficiently the RMS calculates the margins accordingly.
For instance, if you tell your broker that you’ll just intraday trade a stock, then you are exposed to just one day’s risk. Hence, the margin requirement would be lower. On the other hand, if you tell your broker that you want to hold a stock for more than one day then your risk increases significantly because now you are not just exposed to day’s risk but risk to carry your investment overnight. This is called overnight risk.
Suppose you bought InterGlobe Aviation (Indigo) and then overnight fuel prices skyrocket or due to urgent inter-country political turmoil, flights are banned suddenly. In such a scenario, your stock can dip overnight. The point we are trying to make is that; as risk increases, more margin will be charged from you.
Types of order
Basically, when you open a trading terminal and try to place an order you get 2 options: delivery and intraday. These terminologies can differ from broker to broker but mean the same thing. Delivery is when you buy a stock for more than just a day. As the T+1 settlement cycle is considered in India it takes 1 day for your share to get delivered into your Demat. So, if you buy a share today, tomorrow evening the share would be in your Demat. When it comes to intraday, you buy a share and sell it on the same day.
Quick question: What if you forget to sell today? Your broker takes care of this thing by using auto square-off at 3:20 pm.
Did you know? The earlier settlement was T+14 days. Just imagine you buy a share and it gets added into your account after a fortnight. A lot can change meanwhile.
First, let's talk about types of orders in the equity segment based on margins then we can move to derivatives.
Equity Delivery order:
In delivery, there are 2 order types i.e., market and limit. When you place a market order you buy shares at the price at which the share is currently trading; while in limit order you specify a price below which you were to buy that specific share.
Ex. If TCS is trading at ₹3,145 and you were to buy it using market order then your order would be executed immediately for ₹3,145. If you place a limit order with a limit of ₹3,140; your order wouldn’t get executed until the share price is at or below ₹3,140. Using a delivery product type, you will neither get any leverage, nor will your position be auto squared off. You will not be able to take any short positions using the delivery option.
If you refer to Zerodha (a discount broker), the delivery order is named CNC (cash n carry) whereas if you refer to Upstox (another discount broker) delivery order is referred to as Delivery itself. That’s what we were talking about earlier, different brokers have different names for the same order types but they all work the same.
Intraday orders and types
Intraday is where a trader gets a chance to use higher leverage. As traders are exposed to just a single day’s risk, brokers can calculate the maximum loss they can make and accordingly margins are demanded. In intraday again there are 4 types of orders: market, limit, cover and bracket order. We can directly move to bracket and cover order as we have already seen market and limit orders in the above section.
In a cover order (CO), you can select your stop loss (stop loss is the point at or below which you have decided to book your losses). If you have selected your stop loss that means the broker clearly knows what is the amount of risk you are about to take and can now charge you even lesser margins.
Cover order - Stop loss and buying point specified
Finally, we have the bracket order (BO). A bracket order is similar to a cover order with even more details. Here you can specify the price point at which you are ready to book your profits. Also, you can trail your stop-loss. In a bracket order, you generally get the same margins as cover orders but now you have a clear strategy of where to exit trade and book profits.
What is a trailing stop loss?
Suppose you buy D'Mart at ₹2,647 with a trailing stop loss of ₹2,640, In such cases, as the price goes up so does stop loss. If D’Mart reaches ₹2,655 then stop loss will also move from ₹2,640 to ₹2,648. Remember, trailing stop loss accompanies a stock only in the positive direction so even if D’Mart’s price dips from ₹2,655 to ₹2,650 stop loss would be ₹2,648. Now trailing stop loss would only move ahead when the price again touches ₹2,655.
Moral of the story,
Margins required → Market order > Limit order > Cover order = Bracket order.
What the above text means is that the Market order has the highest risk and thus has the highest margin requirement. The Market order is followed by Limit order, Cover order and Bracker order respectively in margin requirements. Each following order type requires less margin than the previous one.
The whole talk that we had about margins was due to margins charged in futures contracts, right? In futures too, the same order types are available as the equity segment with just slight differences in their names. Here, for the sake of convenience, we are using the name conventions used by Zerodha for different order types. Do study your broker’s manual to know their naming conventions. For delivery of contracts instead of ‘CNC’ order, you place an ‘NRML’ order and for intraday of contracts instead of ‘Intraday’ order, you place a ‘Margin Intraday Square (MIS)’ order.
In an ‘NRML’ order you are obliged to pay the full margin for the contract, while in ‘MIS’ order margins reduce significantly. Margins charged for MIS trade are literally 5x-6x lower than NRML orders. Again, in MIS, with 4 different order types, margins reduce slightly.
To put things into perspective on margins required in different orders.
Margins required → NRML >> MIS market > MIS limit > MIS CO = MIS BO.
The amount of margin requirement for derivative instruments follows the same order as delivery instruments.
So, using an MIS option you can enter into 5 to 6 more contracts with the same amount of capital but for just a day.
To conclude, margins that you have been offered by your broker depend completely on the RMS system. You get higher leverage when you enter into an intraday trade compared to a normal trade as the latter has greater risk involved. Further with more information about entry and exit points, your margins get reduced even more.
This is the positive side of the trade. But what about the negative side? You are just holding that contract or stock for just a day and it has to make a move in the direction you have anticipated in that very single day. Even if it doesn’t or if it does make the anticipated move you are required to square off your position anyways! Limited time and higher leverage make intraday trading way too risky. So, it’s your call whether to be a trader or an investor. Follow your