What is an Open Trade Equity (OTE)
Open Trade Equity (OTE) refers to the amount of unrealized profit or loss in an open position.
BREAKING DOWN Open Trade Equity (OTE)
Open Trade Equity (OTE) is a measure of the amount of unrealized profit or loss in a security in which an investor holds an open position. The OTE is determined by comparing the initial margin deposit on the investment against its current value.
For instance, if Alice purchases 50 shares at $200 per share, for a total investment of $10,000, and on Day 2 the value of each share increases to $250, Alice has $2,500 in OTE profit for that holding, which she could liquidate by selling that holding. A holding with an increasing OTE is usually seen as a positive movement, as that means greater potential for profit.
If on Day 7, the price drops to $100, Alice now has a $5,000 unrealized loss on that holding. Unless Alice sells, or closes, that open position this loss remains unrealized. A diminishing OTE is cause for concern for a margin investor, as this may mean that the value of their account drops below their contracted maintenance margin.
If the value of the holding falls below the maintenance margin, a margin call is issued and the investor is required to make account deposits to return to the contracted maintenance margin. While there are a few methods an investor might employ to respond to a margin call, it usually means that the investor needs to deposit cash in the account, or sell holdings sufficient to meet that margin.
Because maintenance margins are contracted with a broker, investors are legally bound to maintain their margins. In the event an investor is unable or unwilling to deposit cash or sell holdings at the time of a margin call, their brokerage is empowered to close open positions from their client’s portfolio at their discretion in order to restore the account to its minimum value.
An Example of Open Trade Equity (OTE) at Margin Call
The Financial Industry Regulatory Authority (FINRA) requires that any investor wishing to open a margin account must begin with at least $2,000 in cash or securities. FINRA requires that the investor agree to a maintenance margin of at least 25 percent, meaning that the investor must maintain an account balance of at least 25 percent of the total market value of the securities held in the account at all times. Typically this maintenance margin is contracted at a higher percentage, and it is common practice for maintenance margins to be 30 percent or more.
For instance, Alice opens an account with $5,000 cash and $5,000 borrowed from a broker on margin at a 30 percent maintenance margin rate. Alice then purchases 200 shares of a stock at $50 per share. The price begins to decline, dragging Alice's OTE down along with it. When the price reaches $35 per share, a margin call is issued and Alice's current OTE is a $6,500 loss.
At this point, Alice will be required to make a deposit into the margin account to bring the account to its minimum required balance. This can take the form of a cash deposit or marginable securities. Alice may also choose to take a loss on the investment by liquidating sufficient stock at that low price in order to meet the margin, and thus closing that holding and realizing the loss on investment.