What is Leverage in Forex trading?
Leverage in forex is like a “loan” that the broker gives the trader so that the trader has more capital to trade with than what he or she initially deposited. It’s represented in the form of a ratio. Some leverage levels that FXTM offers (depending on the client’s knowledge and experience) include 1:50, 1:100, 1:200 and 1:500. Here’s an example of how leverage works: let’s say a trader has a trading capital of €10,000 and is trading with 1:100 leverage. According to his leverage, his trading capital is increased a 100 times, which means he has €1,000,000 (10,000 x 100) to trade with. If he decides to buy the EURUSD at 1.3055 and close his position at 1.3155, he will have almost doubled his capital! ((1.3155 – 1.3055) x €1,000,000 = $10,000).
On the other hand, if this same trader buys the EURUSD at 1.3055 but closes his position at 1.3005, he will have lost almost half his capital. ((1.3005 – 1.3055) x €1,000,000 = -$5,000). It’s very important to remember that, while leverage can increase your capital and give you opportunities to multiply your profits, it can multiply your losses too. Therefore, you must use leverage wisely!
How much forex leverage is right for me?
FXTM offers maximum leverage of 1:30. However, if you’re conservative in your risk-taking or if you’re still learning how to trade currencies in general, a lower level such as 1:5 or 1:10 might work best for you.
Choose the leverage you’re comfortable with, based on:
- Your appetite for risk – how much are you prepared to lose?
- Your individual trading strategies – consider especially which timeframe you’re using.
- Your level of forex experience – what sized amounts do you feel confident controlling?
Why is the leverage so large in forex markets?
Forex leverage of 1:30 or more may seem very high compared to the 1:2 usually offered on equities, or 1:15 in the futures market. However, currency prices usually move less than 1% in a day so the risk is reduced.
Can I trade without leverage?
You can choose to trade only the money in your forex trading account, but potential returns are a lot lower – as are losses. Trading currency pairs without leverage tends to suit three types of trader:
- Those who trade with large trading account balances of $100,000 or more - they’re able to absorb losses without losing their entire trading capital.
- People who are not aiming to earn a living from forex – instead hoping for return on their savings without taking serious risk.
- Traders who are looking to expand their market experience and master forex strategies in a real-money trading environment - but without risking their entire deposit.
How does leverage relate to margin?
Margin is the collateral you place in your trading account to cover some of the risk. Think of it as a deposit. The amount of leverage you can use in your trading account will be defined by the margin.
For example: A 1:100 leverage ratio would mean you’d need to have at least one hundredth (1%) of the total value of the trade as collateral in your trading account.
Some tips for trading forex with leverage:
- Try to maintain low levels of leverage
- Limit capital to 1% - 2% of total trading capital on each position you take
- Don’t try to get out of a losing position by adding to it – cut your losses!
- Use a Stop Loss or Trailing Stop to reduce downside and protect your capital
