Forex Traders Must Understand Margin And Leverage Thoroughly

Traders generally use leverage as a way to increase profits, but this also results in a higher risk of loss. That’s why traders must understand the importance of leverage control. It’s strongly related with margin too. Using margin in Forex trading is a relatively new concept for most traders, and is sometimes misunderstood by some novice traders. Margin is collateral or guarantee given to a broker when a position is opened, not as a transaction fee, but as your account equity. Meanwhile, if you need some brokers with high leverage, you can go to right away.

The example below will show you specifically how much margin is required to hold one open position if using 10k on a standard account. It is important to remember that this value represents a general value that is widely used in trading and that the amount of margin required to hold an open position will ultimately be determined by the size of the trade.

10 to 1 effective leverage

$ 1,000 Equity with $ 10,000 Trade size

Leverage Effect

Using leverage can indeed generate huge profits. However, the risk behind it is that if your transaction is against the current price, the loss will also be multiplied.

Below we can see the concept of leverage with a profit and loss target of $ 5,000:

Assume that traders A and B have started trading with a balance of $ 10,000. Trader A uses the leverage of 50: 1, while Trader B uses the leverage of 5: 1 (more conservative). So how does it turn out for each trader’s balance after hitting a 100 pip stop loss?

– Account equity:
Trader A $ 10,000, Trader B $ 10,000
– National trade size:
Trader A $ 50,000 (Buy 50, 10K lots), Trader B (Buys 5, 10K lots)
– Leverage used:
Trader A 50: 1 (50 times), Trader B 5: 1 (5 times)
– 100 pip Loss in Dollars:
Trader A ($ 5,000), Trader B ($ 500)

Trader A will experience a balance reduction of $ 5,000 while trader B fared much better. Even though trader B both lost 100 pips, the dollar value that was deducted from the loss was only $ 500. Through proper leverage management Trader B can continue to trade and potentially take advantage of the future.