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Buying power reduction

The amount of your account a trade ties up as collateral — how much a broker sets aside while a position is open.

Buying power reduction is the amount of capital your broker sets aside when you open a position, so it can no longer be used for other trades. It is not a fee or a loss, just money that becomes unavailable as collateral against the risk you have taken on. For defined-risk positions the reduction is usually straightforward; for undefined-risk positions it is calculated from a margin formula and can be surprisingly large.

A simple example: if you sell a put with a strike of 50, the maximum theoretical risk is the strike minus the premium received, so your broker might reserve roughly 5,000 dollars of buying power (before adjusting for the credit). Sell a defined-risk vertical spread instead and the reduction usually equals the width of the spread minus the credit, which is far smaller.

The common mistake is filling your account with naked or undefined-risk trades until buying power is nearly exhausted. When the market moves against you the margin requirement can expand, and if you have no free buying power left the broker may force you to close positions at the worst possible moment. Leaving a comfortable buffer is what keeps you in the game.

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