Are you interested in fx trading? Then it is necessary for you to learn about leverage in forex trading. This term refers to two different elements, viz.:
- The mechanism of making a much larger trade than the money which the investor has positioned.
- The expected productivity of a derivative forward transaction or financial product compared to the profitability of operations underlying on assets of these futures or products.
The value of leverage associated with the forex trading market is much higher than it is offered in other financial markets such as the commodity markets or stock markets.
What is leverage in forex market?
Leverage in forex trading is mainly offered in fx in the form of rewards. They offer the possibility to position a total of $100,000 along with the deposit which is equivalent to a $1,000 account.
- Different fx brokers offer several leverage levels.
- Each and every trader has the possibility of choosing their leverage in terms of its risk aversion and yield search.
- One has to keep in mind that, the greater the leverage, the higher the importance of risk involved.
Let me quote an example to understand that how leverage in forex trading works.
An investor has 5050 euros in his account which is opened by his broker, and it also has a leverage of 100:1. The trader bought 5 lots (each lot of 100 000 means paying 1000 Euros) for US dollar/Euro rate of 1.3950. In this case, the margin used is 500 euros.
Now, suppose market moves and exchange rate reaches 1.4050 (with a rise of 100 points), then the profit will be $5000 (100 points x $10 per point X 5) with an increase of 3558 euros (5000/1.4050)
The performance is almost around 70% compared to 5050 euros credited in the account. Therefore, if the exchange rate touches 1.3850 (100 points below), then it will show a loss of 3610 euros (i.e., 100 points x $10 per point X 5/1.3850). So the initial capital of the trader will suffer a huge loss. Now, if the trader wants to maintain is position in the market then, of course, he has to invest more funds.
What are the cons of leverage in forex trading?
Like its advantages has some disadvantages. A crisp knowledge on these disadvantages from the part about leverage in forex is essential. They are:
- The level of risk involved is very high (explained in the example)
- It is considered as dangerous because of its short-term variability
- Fx leverage can also wipe out the entire account if the moves are not calculated properly before they are placed. It is also evident that one wrong decision can lead to high debts with the trader losing their chances of gaining anything from the market
It is better to use 100:1 or 200:1 leverage in forex trading; especially for the those are new in this business. If readers have any doubts, then they can share us with their comments below this post.