What Is a Position Limit
A position limit is a preset level of ownership, or control, of derivative contracts – like options or futures – that a trader, or affiliated group of traders, may not exceed.
BREAKING DOWN Position Limit
Position limits are established by the U.S. Commodity Futures Trading Commission (CFTC) to ensure that no single trader, or group of traders, can exert outsized control on any one financial asset using derivatives.
Purpose of Position Limits
Position limits are ownership restrictions that most individual traders are never going to need to worry about breaching. Most position limits are simply set too high for an individual trader to reach. However, individual traders should be grateful these limits are in place because they provide a level of stability in the financial markets by preventing large traders, or groups of traders, from manipulating market prices using derivatives.
For instance, by buying call options or futures contracts, large investors, or funds, can build controlling positions in certain stocks or commodities without having to buy actual assets themselves. If these positions are large enough, the exercise of them can change the balance of power in corporate voting blocks or commodities markets, creating increased volatility in those markets.
How Position Limits are Determined
Position limits are determined on a net equivalent basis by contract. This means that a trader who owns one options contract that controls 100 futures contracts is viewed the same as a trader who owns 100 individual futures contracts. It's all about measuring the control a trader can exert over a market.
Position limits are applied on an intraday basis. While some financial rules apply to the number of holdings, or exposure, a trader has at the end of the trading day, position limits are applicable throughout the trading day. If at any time during the trading day, a trader surpasses the position limit, she will be in violation of the limit.
Traders may receive an exemption from an imposed position limit from the CFTC in some instances.