Leverage & Margin

Leverage is a very important part of Forex trading, and it’s critical that you know exactly how it works and how to use it. It is the term Forex traders use to refer to the ratio of invested amount related to the trade’s actual value.

When you trade at a leverage of 100:1, it means that for every $1 that you invest in the market, the broker invests $100. With leverage, you do not have to deposit $10,000 in order to trade $10,000.

You can deposit $100 (1% of contract size) to trade $10,000 while trading with leverage 100:1. Leverage is commonly available in ratio, example 50:1, 100:1, 200:1, 500:1.

Without leverage, you would need to deposit at least $10,000 to trade $10,000.

Leverage makes a trader with smaller equity to have the SAME potential profit as trader with much bigger equity.

It probably won’t surprise you when we say that with greater opportunity for profit comes greater risk. Just like slight fluctuations in currency rates can make you significant amount of money, it can also cause you to lose your money very quickly. The higher the leverage, the larger the profit that you stand to make and the quicker you might lose your investment. A leverage of 500:1 can make you more money than a leverage of 100:1, but it also puts your initial investment at more risk.

 

Margin is temporarily held by brokerage until the order is closed / settled. Keep in mind that margin is held by the brokerage until the order is closed. Right after the position is liquidated, the margin will be credited back to your balance.

Margin is quantified in percentage and affected by Leverage.

Example: Leverage 100:1 = 1% Margin Requirement, Leverage 200:1 = 0.5% Margin Requirement, 500:1 = 0.2 %, and so on.

 

Example

Let’s say, you have $1,000 deposited in your trading account with Leverage 200:1. The maximum contract size you can trade is almost $200,000 (almost 200 times the balance). It can also be said that to trade 2 lots of $100,000, the brokerage needs 0.5% x $200,000 = $1,000 margin.

 

Another example

You have $500 deposited in your trading account with leverage 500:1. In this case, if you open a contract on USD/CAD in amount $50,000 (50,000 units), the margin held is $100 (0.2%).

Your $100 margin will be locked temporarily by brokerage, and the rest $400 can be used to anticipate loss that may occur. While floating loss is approaching $400, you are run out of available margin, if this happens, brokerage is going to close open positions to prevent your balance falling to negative.

WITH OR WITHOUT LEVERAGE?

BIG OR SMALL LEVERAGE?

Remember, leverage can be your best friend when used carefully, and is your worst enemy when used recklessly. It is a great tool for increasing profits, in fact individual traders like you rarely trade without it, but you should always keep in mind that the higher the leverage is – the higher the risk level involved.

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