Quick Answer
Return on margin equity is net profit divided by the initial margin (the performance bond) posted to open the position, stated as a percentage. It is measured against the margin actually deposited, not the full contract value, which is what makes the percentage look large. Because margin is a bond and not a loan, no interest erodes it.
The final stage measures the trade against the cash the speculator actually put up. That is the whole point of the metric, and it is why a modest price move can post a strikingly large percentage return.
The Formula
The return divides what the trader kept by what the trader had to deposit.
- The denominator is the initial margin actually posted to open the position (per contract times the number of contracts), not the full contract value.
- Use net profit, after commissions, in the numerator when a commission is given, so the return reflects what the speculator really keeps.
- The result is expressed as a percentage.
Why the Return Looks So Large: Leverage
Futures are leveraged because a small margin controls a much larger contract value, so a modest move produces an outsized percentage on that small deposit.
- Initial margin is only a slice of the contract's full (notional) value. Measured against that slice, a price move that is small relative to the whole contract becomes a large percentage return on the margin.
- Margin is a performance bond, not a loan. It is a good-faith deposit posted to guarantee the trader can meet the contract's obligations. The trader is not borrowing anything, so no interest is charged on it. This differs from securities margin, where the customer borrows money from the broker and pays interest for as long as the position is held.
- Because no interest accrues, the return-on-margin figure is not eroded by a financing cost the way a margined stock position would be.
Think of it this way: a small deposit is holding the reins on a much larger contract. When the price moves a little, the dollars land on that small deposit, so the percentage return swings hard even though the move was tiny next to the full contract value.
Exam Tip: Gotchas
- Return is measured against the margin deposited, not the full contract value. Dividing net profit by the notional contract value badly understates the return and misses the entire point of leverage. The denominator is the initial performance bond the speculator posted.
- Futures margin is a performance bond, so no interest reduces the return. A trap borrowed from securities math subtracts a margin-interest charge before computing the return. Do not: futures margin is the trader's own collateral, carries no financing cost, and the return is net profit over that deposit with no interest deduction.
Worked Return on Margin (Winning Long)
Reuse the winning long: $700 net (after the $50 round-turn) on 1 corn contract. The exchange sets initial margin at $2,000 per corn contract. Contract value at entry: 420 cents is $4.20 per bushel, times 5,000 bushels, so $21,000 notional.
| Line | Figure |
|---|---|
| Net profit | $700 |
| Initial margin deposited (1 contract) | $2,000 |
| Return on margin equity | $700 divided by $2,000 = 35% |
| Contrast: return on full contract value | $700 divided by $21,000 = about 3.3% |
- Read-out: the trade returned 35% on the margin actually posted, but only about 3.3% on the full $21,000 contract value. That gap is the leverage effect. The $2,000 margin controlled $21,000 of corn, roughly 10.5 to 1, so the return on margin is about 10.5 times the return on contract value (about 3.3% times 10.5 lands near 35%).
- Formula check: 700 divided by 2,000 is 0.35, or 35%; 700 divided by 21,000 is 0.033, or about 3.3%. Foots.
Exam Tip: Gotchas
- The large percentage comes from the small denominator, not a large profit. A $700 gain looks modest against a $21,000 contract (about 3.3%), but against the $2,000 posted it is 35%. If a choice reports the notional-based figure, it has divided by the wrong number.
Worked Return on Margin (Winning Short, Multiple Contracts)
Reuse the short from the gross-profit section: $1,800 gross on 3 corn contracts. Apply the $50 round-turn per contract (3 times $50 is $150), then use $2,000 initial margin per contract (3 times $2,000 is $6,000).
| Line | Figure |
|---|---|
| Gross profit (short, 3 contracts) | $1,800 |
| Round-turn commissions ($50 times 3) | minus $150 |
| Net profit | $1,650 |
| Initial margin deposited (3 contracts) | $6,000 |
| Return on margin equity | $1,650 divided by $6,000 = 27.5% |
- Read-out: after $150 of round-turn commissions, the short netted $1,650 on $6,000 of posted margin, a 27.5% return on margin equity. The per-contract math scales cleanly: three contracts triple both the profit inputs and the margin, and the percentage reflects the net-of-commission result.
- Formula check: 1,800 minus 150 is 1,650; 1,650 divided by 6,000 is 0.275, or 27.5%. Foots.