What Is the Broker's Call?
The broker's call, also known as the call loan rate, is the interest rate charged by banks on loans made to brokerage firms. These brokers then use these loans, called call loans, to provide leverage to traders using margin accounts.
As their name suggests, call loans must be repaid immediately—or "on call"—if so requested by the bank. If a broker believes that their loans might be called, they may initiate a margin call on the traders to whom they lent the funds.
- The broker's call is the interest rate charged by banks to brokers in regard to a call loan.
- Their cost is determined by referencing an interest rate benchmark and making adjustments based on the perceived creditworthiness of the broker in question.
- These loans are used by brokers to fund their traders' margin accounts. Like margin accounts, call loans can be retrieved, or "called back," by their lenders.
Understanding Brokers' Calls
As you can see from the description above, the broker's call is an important part of the supply chain responsible for providing traders with leverage through their margin accounts. From the perspective of the margin trader, the loan originates from their brokerage firm, and the trader must ensure that they maintain adequate collateral in their account in order to ensure that their margin loan does not get called by the broker.
From the perspective of the broker, however, the money lent to the trader is a call loan borrowed from a bank. Therefore, the broker must ensure that the call loan does not appear risky to the bank, or else the bank might exercise their right to call it back. To prevent against this, the broker will closely monitor the value and collateral of the trader's margin account and will call the margin loan if they feel its risk is becoming too high.
In fact, even if a particular margin account is reasonably well funded, it may still be called back by the broker if that broker's own call loan is called by the bank. For this reason, a margin trader might face a margin call for reasons unrelated to the risk level of their own account. Although such instances are rare, they do occur in situations where financial anxiety spreads throughout the markets, such as in a credit crunch.
As with other loans, the interest rate paid on call loans fluctuates on a daily basis based on factors such as economic conditions and the supply and demand of capital. These rates are published regularly in publications such as The Wall Street Journal and Investor's Business Daily, and they are typically based on a benchmark, such as the London InterBank Offered Rate (LIBOR). The broker's call then incorporates a risk premium based on the perceived creditworthiness of the broker, along with other factors.
Real World Example of a Broker's Call
XYZ Brokerage Services recently received a broker's call loan from a large bank, ABC Financial. When calculating the interest rate on the loan, ABC took into consideration the opportunity cost posed by alternative loans and investment opportunities. Given that LIBOR was 2% at the time the loan was given, and considering that XYZ was perceived as having very high creditworthiness, ABC agreed to provide the call loan with only 2.5% interest. XYZ understood that, as part of the loan terms, ABC would have the right to call back the loan at their discretion.
Once it received the call loan, XYZ then used the funds to supply several margin customers with loans for their margin trading accounts. As with ABC, XYZ considered its own opportunity cost and the creditworthiness of its account holders when deciding what interest rate to charge on the loans, settling on a 5% interest rate. The contract for these loans was clear to state that XYZ could demand repayment of the loans using a margin call, potentially with limited or no advanced notice to the trader.