Does the Pattern Day Trader Rule Apply to Options?

Day trading involves the frequent buying and selling of securities within the same trading day, aiming to profit from short-term price fluctuations. To manage risks in margin accounts, regulatory bodies established specific rules. The Pattern Day Trader (PDT) rule regulates frequent trading, ensuring market stability and protecting individual traders. This article clarifies the applicability of the Pattern Day Trader rule to options.

Understanding the Pattern Day Trader Rule

A “day trade” refers to the purchase and subsequent sale, or the sale and subsequent purchase, of the same security within the same trading day. This definition applies to transactions conducted in a margin account. The “pattern” aspect comes into play when a trader executes four or more such day trades within any five consecutive business days. This designation also requires that these day trades constitute more than six percent of the total trades executed in the margin account during that same five-business-day period.

To be designated a Pattern Day Trader, an individual must maintain a minimum equity of $25,000 in their margin account on any day they engage in day trading. This required minimum, a combination of cash and eligible securities, must be present in the account before any day-trading activities begin. This rule primarily applies to margin accounts, which allow traders to borrow funds from their brokerage. The Financial Industry Regulatory Authority (FINRA) established this framework under Rule 4210 to address the inherent risks of frequent, leveraged trading.

Applying the Rule to Options Trading

The Pattern Day Trader rule applies to options contracts. Options are considered “securities” under FINRA’s rules, meaning that trading them in a margin account is subject to the same PDT regulations as trading stocks. Therefore, if a trader opens and closes an options position within the same trading day, it counts as a day trade, just as it would with shares of stock. The regulatory framework makes no distinction for PDT purposes. The underlying asset of the option, whether it is a stock, exchange-traded fund, or other instrument, does not alter its status as a security for the application of the PDT rule.

Counting Day Trades with Options

When trading options, an “opening transaction” establishes a new position, such as buying to open a call or put, or selling to open a call or put. A “closing transaction” then liquidates that position, like selling to close a long option or buying to close a short option. If both the opening and closing transactions for the same options contract occur within the same trading day, it constitutes one day trade. For example, if a trader buys a call option in the morning and sells the exact same call option later that afternoon, this action counts as a single day trade.

Multi-leg options strategies, such as vertical spreads or iron condors, can present nuances in how day trades are counted. While some brokers might treat the entire strategy as a single unit, individual legs of the strategy that are opened and closed on the same day can sometimes count as separate day trades. It is important for traders to confirm their specific broker’s policy regarding the counting of complex options strategies. The “same security” aspect for options means that a day trade occurs only when the transactions involve the same underlying stock, with the same strike price and expiration date.

Consequences of Pattern Day Trader Status

Upon being identified as a Pattern Day Trader, an account becomes subject to specific requirements and potential restrictions. A primary consequence is the requirement to maintain a minimum equity of $25,000 in the margin account on any day day trading occurs. If the account’s equity falls below this $25,000 threshold, the trader will be issued a “day trade margin call”.

Failure to meet this day trade margin call within five business days can lead to significant trading limitations. The account may be restricted to closing existing positions only, preventing the opening of new day trades. If the call remains unmet, or if the account consistently falls below the $25,000 equity requirement, a 90-day restriction may be imposed, limiting the account to trading only on a cash available basis. To remove the PDT designation, a trader must either meet the $25,000 equity requirement or, in some cases, request a one-time removal from their broker, which may be available once every 90 days.