In Regulatory Notice 19-21, FINRA announced that exchange-traded notes ("ETNs") will now be treated differently than investment grade debt securities under the maintenance margin requirements of FINRA Rule 4210(c).3 That rule requires strategy-based accounts to maintain equity equal to 25% of the current market value of all margin securities long in the account, and the greater of 5% of the principal amount or 30% of the current market value of the debt securities short in the account. Debt securities, which include ETNs, are margin securities.
FINRA Rule 4210(e)(2)(C) provides some exceptions, allowing reduced margin requirements for investment grade debt securities, listed non-equity securities and other margin non-equity securities. ETNs are within those exceptions, because they are listed on a national securities exchange and their issuers typically are rated investment grade.
FINRA noted some concerns about ETNs, and also compared them to non-structured debt securities and exchange-traded funds ("ETFs"):
- Holders of ETNs are subject to the credit risk of the issuer and the performance of the underlying reference asset;
- Holders of ordinary debt are subject to issuer credit risk and, to some extent, interest risk;
- ETNs are unsecured debt, with no ownership interests in the underlying reference asset;
- ETF owners hold an equity share of the ETF, which represents an ownership interest in the underlying portfolio of assets; and
- ETNs generally have an early issuer call right, which causes the return on an ETN to further diverge from that of an ETF on the same underlying index.
Consequently, FINRA will no longer allow ETNs to be within the exceptions provided by FINRA Rule 4210(e)(2)(C) for ETN positions in strategy-based accounts. Under FINRA Rule 4210, ETNs will now be subject to:
- An initial maintenance margin requirement of 25% of the current market value of ETNs held long in an account, and 30% of the current market value for ETNs held short; and
- An initial and maintenance margin requirement on listed options of ETNs of 20% of the underlying current market value of the ETN, and a minimum margin requirement of 10% of the underlying current market value of the ETN, in each case for purposes of the listed options and warrants requirements chart in Rule 4210(f)(2)(E)(i).
FINRA also increased the margin requirements (including day trading requirements) for leveraged ETNs and their associated uncovered options by a factor commensurate with their leverage. This approach is consistent with that taken by FINRA in Regulatory Notice 09-53 with respect to leveraged ETFs.
Footnote
3 Regulatory Notice 19-21 is available at: https://bit.ly/2Zknd3t.
Originally published in REVERSEinquiries: Volume 2, Issue
7.
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