Why Leverage is a double edged sword? P2

Friday, January 17, 2020 - 13:00
Point Trader Group
Why Leverage is a double edged sword? P2

We talked in the first part of the leverage a double-edged sword weapon about the concept of leverage and we will continue in our article the leverage in numbers for further clarification of the concept of leverage and how important it is in the Forex market

 

Leverage in numbers ...

The most common leverage amount is 100: 1. This means that for every $ 100 traded, a trader only needs to pay one dollar to enter into this trade. More recently in the United States, the government has established stricter rules with effective trading that states that US brokers can only allow clients a maximum of 50: 1.

In other countries outside the US leverage, it ranges from 50: 1 to 1000: 1. If leverage is used professionally, then 50: 1 or 100: 1 is more than enough to trade successfully.

Another example of using leverage: if a trader would open a position of $ 100,000 with a leverage of 100: 1, he would not need more than $ 1,000 as margin (1%) to open that position.

The order will be as follows in his trading account at the brokerage company:

Account balance: $ 10,000

The value of the position that the trader wishes to enter: 100,000 units. (Standard lot)

Margin required to open a position: 1% of the value of the position, or $ 1,000 (based on the size of the entry position).

Margin available of the account balance: $ 9000 (the basic balance - used margin) and the available margin is the maximum amount that a trader can lose and this rule changes from one broker to another.

 

Another example of a position with a value of 10,000 units and based on 1: 100 (leverage)

Account balance: $ 10,000

The value of the position that the trader wishes to enter: 10,000 units. (Mini lot)

Margin required to open a position: 1% of the value of the position or $ 100 (based on the size of the entry center).

Margin available from the base balance: $ 9900 (base balance - USED margin).

 

Example of a position with a value of 1000 units and based on 1: 100 (leverage)

Account balance: $ 10,000

The value of the position that the trader wishes to enter: 1000 units. (Micro Lot)

Margin required to open a position: 1% of the value of the position, or $ 10 (based on the size of the entry center).

Margin available from the base balance: $ 9990 (base balance - USED margin).

 

Simple examples for leverage numbers:

1:50 leverage means 2% margin requirement

1: 100 leverage means 1% margin requirement

1: 200 leverage means 0.50% margin requirement

1: 400 leverage means 0.25% margin requirement

1: 500 leverage means 0.20% margin requirement

Note: Higher leverage means more available margin and thus you can enter the market with more contracts which makes the risk higher, because the higher your trades, the less available margin and therefore the more likely you will exit the market early.

 

Watch out! With the opportunity comes risks

Once you place an order for a brokerage firm that includes a specific leverage option, you can make a lot of money or you can mistake market changes and ultimately lose money; this is only when things get serious. If you invest $ 100 with a leverage of 1: 100, this means that you borrowed 10,000 from the broker. Of course, this money must be returned one way or another. The broker you trade with will do his best to get this loan back. Well, do not worry, the broker in any way will not allow you to lose the money that we implicitly consider a loan. It goes according to certain conditions and criteria, the broker avoids the loss and does not allow you to lose more than your capital.

 

It is very important to remember that trading in the Forex market is not easy and requires study and practice and therefore trading without experience with high leverage means that in the end you will lose a lot of money (you can lose your entire capital). This is why professional traders are very careful when they trade leverage and use it with extreme caution when they are confident of their positions. This is also the reason why novice traders are advised to stay away from highly leveraged deals. Beginners and mid-level traders can make successful deals and earn money, but the smallest contract size when trading should be used to limit the potential loss.


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