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2 Sep, 2024
5 mins read
A portfolio can have multiple positions, either in the green or red. In such a case, how does a trader know the true value or the net position of the portfolio? This is where the concept of mark-to-market comes into play.
MTM is a financial method that provides a snapshot of the true or current value of assets. Traders also use it to know the current or real-time value of their investments or trading positions. Dive into this blog to learn all about mark-to-market and how to apply MTM in stock markets.
Mark to Market (MTM) is a method used to measure the current value of an asset or portfolio based on its most recent market price. Examples of assets that have mark to market prices are equities, derivatives, bonds, mutual funds, and real estate.
Traders and investors use this concept to stay informed about the true value of their investments and to understand how much they would be worth if sold at the current moment. The idea of mark to market contrasts historical cost, where the assets or investments are valued based on their original purchase price.
The mark-to-market method regularly updates the value of assets, investments, or positions to reflect current market prices. Traders or investors use this process to compare the original purchase price of their investments with the current market price at the end of each trading day.
If there is an increase in the market price of the asset, its value is adjusted upwards, resulting in an unrealised gain. Similarly, if the asset's market price reduces, the value of such investment is adjusted downwards, leading to an unrealised loss.
This daily adjustment ensures that the portfolio’s value reflects real-time market conditions, providing a clear and accurate picture of its worth. This helps traders make better decisions, manage risk effectively, and aid in better reporting as per regulatory requirements.
MTM is an essential factor to consider in futures contracts, a process where the value of open futures contracts is updated in real time throughout the day based on the current market price of the underlying asset. This implies that any profit or loss due to price changes is calculated and settled in the trader’s account in real time.
Consider Ankur buying a futures contract at Rs.100. The contract price rises to Rs. 103 by the end of the trading session, and the resultant profit of Rs. 3 is credited to his account.
On the other hand, if the contract price drops to Rs. 97, the resultant loss of Rs. 3 is debited from his account, and if there is a shortfall in his trading account, he can get a margin call. This adjustment helps manage risk and ensures traders keep enough margin in their accounts to cover potential losses.
Mark-to-market is used in multiple fields, including accounting, investing, financial services, etc. However, this concept is explained below in the context of the financial markets.
Mark to Market (MTM) updates a portfolio's valuation to current market prices, allowing investors to see their holdings' real-time worth.
MTM enables daily portfolio performance monitoring, helping identify and mitigate potential losses, thus supporting a balanced investment strategy.
MTM, often a regulatory necessity, enables transparent, accurate financial reporting, essential for investor confidence and legal standards compliance.
MTM tracks investment performance over time, simplifying comparing current market value to purchase price and aiding strategy adjustments for better returns.
Here is a mark to market example for better understanding.
The formula for calculating mark to market value of a particular asset is
MTM Value = Current Market Price or Fair Value per Unit X Number of units
Consider Rahul buying 100 shares of Wipro at Rs. 500 per share.
The total investment or portfolio value for Rahul= Rs. 50,000 (100 * 500)
If the current market price of these shares increases to Rs. 550 in the next trading session, the value of the portfolio will be,
Increased value of portfolio = Rs. 55,000 (100 * 550)
Notional profit in this scenario = Rs. 5000 (55000-50000)
If the current market price of these shares decreases to Rs. 480 in the following trading session, the value of the portfolio will be,
Decreased value of portfolio = Rs. 48,000 (100 * 480)
Notional loss in this scenario = Rs. 2,000 (50000-48000)
Thus, using the MTM approach, Rahul can have the real-time value of their portfolio, which can help him make suitable trading decisions or determine exit positions to minimise losses.
Using a mark-to-market approach is a healthy way to maintain an up-to-date portfolio and know the true value of assets at any given point. A few more benefits of using the mark-to-market method include,
Traders can make informed decisions about buying, selling, or holding positions by knowing the true value of investments.
Mark-to-market allows investors to track the performance of their investments over time, enabling them to evaluate and tailor investment strategies to meet their investment goals.
MTM helps identify underperforming assets quickly and gain better insight into the impact of market movements on your portfolio. This allows traders or investors to take corrective action before losses accumulate and stay proactive, especially in volatile markets.
MTM enhances liquidity management by providing a clear view of asset value, helping investors meet margin requirements and other financial obligations.
MTM enhances the ability to benchmark one’s portfolio against market indices or peer performance, providing a clearer picture of investments' performance.
Mark to Market (MTM) is a key method for financial market participants, offering real-time portfolio valuations. It enables investors to quickly adjust portfolios to protect profits or cut losses, which is especially important in volatile markets. However, understanding MTM's intricacies and risks is crucial for its effective use in portfolio management.
MTM stands for mark to market and is a method used to measure the current value of an asset or portfolio based on its most recent market price.
Mark-to-market is worth it for traders and investors as it provides accurate, real-time asset valuation, enhancing decision-making, risk management, and financial transparency.
The prime risk of marking to market is that it can lead to significant fluctuations in asset valuations due to market volatility, potentially resulting in unrealised losses that can build anxiety in traders' minds.
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