Lesson 18 of 25 · 7 min

January 2021: why several brokers restricted purchases

The constraint was not on the customer's order; it was a two-day clearing deposit sized by volatility and concentration.

On 28 January 2021 a number of retail brokers restricted opening purchases in a handful of shares while continuing to permit sales. The restriction is usually explained as a choice about customers. Mechanically it was a capital constraint at the clearing layer, and understanding it requires knowing where a trade sits for the two days after it is agreed.

Equity trades settled two business days after execution in 2021. In between, the central clearing house stands between buyer and seller and bears the risk that one of them fails, so it collects a deposit from each clearing member sized to that member's unsettled portfolio. The deposit rises with the volatility of the names involved, with how one-sided the flow is, and with how concentrated it is in few securities.

In late January 2021 all three inputs moved at once. One broker's deposit requirement was reported at roughly three billion dollars in the early hours of 28 January, several times the previous day's figure. A requirement of that shape is not payable out of revenue; it is payable out of capital, immediately.

A clearing member facing a deposit larger than its available capital has three levers, and only one acts within hours:

Post more capital, by drawing credit lines or raising equity, which takes days even when it succeeds.
Reduce the unsettled risk, by restricting opening purchases in the names driving the requirement, which lowers the deposit the same morning.
Fail to meet the deposit, which ends the firm's ability to clear at all.

That is why closing trades stayed open while opening purchases did not: a closing trade reduces the unsettled position and therefore the deposit. Brokers subsequently reported drawing credit lines and raising capital within days, and the settlement cycle was later shortened, which reduces the exposure window the deposit is sized against.

Key terms

Clearing deposit: Collateral a clearing house collects from each member against unsettled trades. Sized by volatility, concentration and one-sidedness, and recalculated overnight.
Settlement cycle: The number of days between agreeing a trade and exchanging cash for shares. Every day of it is a day the clearing house must be collateralised against.
Clearing member: A firm permitted to submit trades to a clearing house. Its capacity to accept customer orders is limited by the deposit it can fund.

Worked example

Why restricting purchases lowers the number

Illustrative figures scaled down so the arithmetic is followable; they are not the reported amounts. Unsettled one-sided purchases of $4,200,000 in a single name, a base deposit rate of 12 percent, a volatility multiplier that rises from 1.0 to 3.4, a concentration add-on of 18 percent, and $1,150,000 of available liquid capital.

Deposit at the base rate: $504,000
After the volatility multiplier: $1,713,600
After the concentration add-on: $2,022,048
Shortfall against capital: $872,048
Unsettled purchases the capital supports: $2,388,667
Reduction required: 43.1%

The deposit quadrupled without a single new order, because the multiplier and the add-on both moved. Restricting purchases is the only lever that changes the numerator before the deposit is due.

Check yourself

A clearing member has $2,600,000 of unsettled one-sided purchases at a 10 percent base rate, a volatility multiplier of 2.8 and a concentration add-on of 25 percent. It holds $520,000 of liquid capital. What is the deposit, and by how much must unsettled purchases fall?

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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.