In this workout around centralized clearing we are asked to calculate the initial margin and variation margin payments required by both sides given the following information. So we're looking at an equity index futures trade where three contracts have been traded between these two counterparties. The initial margin amount as stipulated by the clearinghouse is $25,000 per contract and the contract size is $250 multiplied by the index price or in other words, one index point is worth $250. The workout also says that the initial futures price was 2,400 points, or 2,400 index points, and by the end of the first day of trading it had increased to 2,420 index points.

The first question asked by the workout is who is the initial margin paid by and initial margin needs to be paid by both the long and the short side of any transactions that are being centrally cleared. The initial margin acts as a good faith deposit to provide comfort to the clearinghouse that they will be able to fulfill obligations to one side of the trade even if the other side defaults. The initial margin amount that needs to be paid in by both sides is the stipulated amount of $25,000 per contract, multiplied by the number of contracts that have been traded here, which is three, giving $75,000 as the initial margin amount required to be paid in by both sides of the trade. In terms of identifying the variation margin amounts and directions of payments of variation margin it is first necessary to think about who has won and who has lost from this price movement on the first day. Since the futures price has increased, the long side of the contract will be the winner and as a result, the requirement to pay variation margin into the clearing house is the short side who has lost as a result of those transactions. The short side will pay the variation margin into the clearinghouse. The clearinghouse will add this amount to the long side margin account. The size of the variation margin will amount to the movement in the futures price since it was initially entered into to the end of the first day, that's 20 index points multiplied by the dollar value of one index point, which is $250, multiplied by the number of contracts that have been traded between these two counterparties, which is three. Which gives us $15,000 of variation margin paid to the clearinghouse by the short side of the contract and paid from the clearinghouse to the long side at the end of the first day.