Lesson 6 of 25 · 6 min
Concentration measured as a share of collateral
The governing number is a ratio, and it can cross a threshold on a day you bought nothing and sold nothing.
Concentration is not a dollar amount and not a feeling about a portfolio. It is one position's market value divided by the pledged pool's market value, and every tier in lesson 5 is a boundary on that ratio.
Because it is a ratio, it has two moving parts, and neither of them requires a decision from you. The numerator rises when the holding appreciates. The denominator falls when everything else declines, when a dividend is swept out, or when other collateral is released. Any of the three raises concentration without a single trade.
Here is the version that surprises people. A holding is worth $620,000 in a pledged pool of $2,480,000, so concentration is exactly 25.0 percent. Over a quarter the holding rises 32 percent to $818,400, while the remaining $1,860,000 falls 6 percent to $1,748,400. The pool is now $2,566,800 and concentration is $818,400 ÷ $2,566,800 = 31.9 percent. A 30 percent tier boundary has been crossed by a portfolio that did well.
The direction runs the other way too, and it is worth stating because it is symmetric rather than because it is desirable. Pledging additional diversified collateral raises the denominator and lowers the ratio; a holding that lags the rest of the pool lowers the ratio on its own. Concentration is not a state you enter and remain in. It is a reading that changes daily, and only the lender computes it daily.
Key terms
- Concentration ratio
- One holding's market value divided by the total market value of everything pledged against the same line.
- Tier boundary
- The share of the pool at which the advance rate on further dollars of a holding changes. Crossing it changes the effective rate on the whole position.
- Denominator effect
- A rise in concentration caused by the rest of the pool shrinking rather than by the holding growing.
Worked example
Crossing a boundary without trading
A holding worth $620,000 sits in a pledged pool of $2,480,000. Over one quarter the holding rises 32% and the rest of the pool falls 6%. Illustrative figures.
- Concentration at the start
- 25.0%
- Holding after the rise
- $818,400
- Rest of the pool after the fall
- $1,748,400
- Pool total
- $2,566,800
- Concentration at the end
- 31.9%
- Trades required to get there
- None
$620,000 ÷ $2,480,000.
$620,000 × 1.32.
$1,860,000 × 0.94.
$818,400 ÷ $2,566,800.
The ratio moved 6.9 points and crossed a 30 percent boundary while the account gained value overall.
Check yourself
A holding worth $445,000 sits in a pledged pool of $1,780,000. The holding is flat and everything else falls 10 percent. What is concentration now?
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Educational only. Nothing in this lesson is investment, legal or tax advice, or a recommendation to enter into any transaction. Figures are illustrative and computed from the inputs stated in the lesson.