Leverage and margin amounts
The levels of leverage and margin amounts available to you is also a crucial factor in your decision.
Leverage is a feature of some trading instruments. It means that the majority of your position size is, essentially, borrowed from your broker. When opening a forex trade, you’ll put down a percentage of its value, known as margin, and your broker will put up the rest.
It also means that your initial outlay to open a trade is only a fraction of the position’s actual size, but both profits and losses are calculated based on the trade’s full value. This means both profits and losses can substantially outweigh your margin amount.
Your total exposure compared to your margin is known as the leverage ratio.
Let’s say you want to buy 1000 shares of a company at a share price of 100 cents. To open a conventional trade with a stockbroker, you’d be required to pay 1000 x 100 cents for an exposure of $1000 (not including any commission or other charges).
However, with leverage, you can pay a fraction of this cost upfront. If the margin amount was 20%, you’d pay just $200 to open a position worth $1000. Both your profits and losses would, however, be calculated on the full $1000.
If you went long on your trade and the company’s share price goes up by 40 cents, your 1000 shares are now worth 140 cents each. If you close your position, then you’d have made a $400 profit – double your initial margin amount of $200.
The reverse would be true if you went long and the share price dropped by 40 cents, you’d have made a $400 loss – double your initial amount paid. So, there’s substantial risk of profits or losses outweighing your margin amount.
This is what makes the leverage ratio of the forex broker you’re trading with crucial. A high amount of leverage means you can make far more with a small amount of capital than you could otherwise. However, it also means you’re at risk of losses far outweighing your position size, and you’d forfeit that entire amount if your prediction is incorrect.
When researching forex brokers, you might come across extremely high leverage ratios – but be aware, using excessive leverage puts you at risk to enormous losses, which could cripple your trading strategy.
We also give you negative balance protection.2 This means you can’t lose more than the equity available in your account. If your balance does go negative, we’ll bring it back up to zero at no cost to you.
Here are some more margin and leverage specifics on some of our most popular currency pairs:
