Forex Trading Guide & Reviews
What is Margin
Margin and leverage are the two things that make currency trading so popular – and so accessible, but what are they?
Forex margin accounts allow FX traders to control a large amount of currency with only a small deposit. This allows everyone with a computer and an internet connection to get started with currency trading.
In FX, leverage is usually expressed as a ratio, while margin accounts are expressed as a percentage. For example, a margin account of 1% would give you 100:1 leverage. So with $100 you could control $10,000 of currency. If the $10,000 of currency that you buy increases in value, you get all of the profits – but if that currency decreases in value, you are liable for all of the cost. Many people are wowed by the profit potential, and don’t stop to think about what would happen if the trade went wrong.
Trading on margin increases your profit potential, but also increases your risk of losses. If the market crashes, then it could be possible for a trader to lose more money than the original deposit – and end up in debt to the FX broker! Fortunately, most online FX brokers will end a trade if it falls below the amount deposited, minimising your losses – but you’ll still have lost the money that you had deposited, you just won’t end up owing a lot more.
If you end up in a position where the currency pair you are trading loses so much value that you don’t have enough money in the account to cover that loss, and the broker steps in to ask you to deposit more money or securities or sell the currency, then this is known as a margin call (or a maintenance, or fed call in some parts of the world). This is really a worst case scenario, and not something that you want to have happen to you.
For this reason, care should be taken when trading on margin. Beginners should pick trades that are considered safe, and watch them carefully. Don’t cling to a trade that is dropping hoping that the trend will reverse if all common sense indicators say otherwise. The profit potential for ‘safe’ trades may not be mega-bucks, but most daytraders make their money by making several trades per day – getting in when prices are low, and selling once they’ve risen a little. Lots of small profits are better than one huge loss!
FX trades involve fairly minor differences – a pip can be a fraction of a cent – so you need to be trading fairly large amounts in order to see a profit of any real size. Margin accounts make it worthwhile for even those without large funds to trade. Proper use of trading tools such as the stop loss option can ensure that you minimise the risk of trading on margin, whilst still being open to the profit potential of this useful and powerful trading tool. If you’re a novice investor, try not to use the full amount of margin that is at your disposal. Even if you’re working with a generally reliable signal provider, it’s a good idea to minimise the risks that you take, at least until you have built up a big enough savings buffer to be able to cover yourself if the market did bottom out.
Before you trade make sure you understand how stop loss orders are handled at your chosen online Forex broker, and that you know what they will do if your trade does go bad. Terms and conditions vary from broker to broker, so understanding exactly how your broker works is vital.
Tips for Trading on Margin
Trading on Margin can be a tempting proposition, as the potential gains can be huge. Before you start trading on Margin, make sure that you understand all of the rules. Don’t rely on your broker to protect you. Make good use of the stop loss orders mentioned earlier to ensure that you don’t end up owing money to your broker if (or, more accurately, when) things go wrong. Even the best traders have bad days, and a facing a Margin Call is not a good thing.
It’s also a good idea to have some backup funding. When you start trading, don’t buy into a currency all in one go. Hold some funds in reserve and start your trading gradually, re-investing a portion of your profits as you go. Yes, this means you could potentially miss out on mega-bucks, but it also means that if you do make a bad trade your account will like to trade another day. Considering that the vast majority of novice traders run out of cash within the first year, and margin trading makes that event come even more quickly than normal for most people, caution should be the order of the day.
Margin trading can work well with a quality signal provider, however in the early days it’s best to use as little leverage as you can get away with in order to trade on that broker. Save the huge leverages for when you have a bigger safety net.
Want to learn more about Forex terms, why not check out our Forex glossary.
The Benefits of Leverage
There are providers who won’t allow trade once you expire your margin deposit. It is like a prepaid account where you cannot lose more but you can’t trade on more too.
Margin given in percentage is leverage. Thus, if you relate risk with leverage; you’ll relate it with margin too.
I love sporting it out with Forex. What is life without a few risks? I keep a good percentage of margin money with my broker and skirt on margins. Margin trading is when you play on the extent of your pip spreads and lose or win as soon as the market goes up or down that level.
With good leverage, you earn huge on a number of lots you own by just investing the margin money.
Trading on margins just on instinct is never a wise decision. There are too many complications that result in the fluctuations of the market, and even experienced traders sometimes fail to read the market.
Monopoly game is where you own a house at say, $100. Likewise, in margin trade, you can buy huge future contracts by just paying the margin money. Whenever the contract crosses your margin in profit or loss, your transaction ends. Thus, you can eye larger profits through this trade but with a corollary: You may lose big too.
Many brokers offer you the option to make margin calls, after you have deposit margin money.
Plainly, if the margin is 5%, and you have deposited $1500, you can buy or sell lots worth $30000.
Otherwise, you would have to pay the whole money and so this trade helps you to deal in larger investments.
In margin trading, you can buy or sell the whole lot by just paying the margin (leverage) offered by broker. Obviously, by buying or selling big, you open the door to higher profits or losses. Thus, this interested format is lapped up by quite a few traders, who like their risks.
Certain brokers take the safer route and stay away from margin calls to avert risks. With beginners, they won’t allow you more leverage than your investment fearing losses. However, it has a sunny side for brokers too since he can lure you into a number of margin calls, making money on every call.
Dealing in margins is death-knell.
Experienced players go on a predictable route and know where to stop. However, some speculators are keen to eye huge profits and if they get an air about an imminent rising currency, they buy it in good number using leverage and margin. If the currency really rises, he is bound to make the most. If it falls, prepare for the worst.
Those who deal in margin calls often find themselves losing their entire deposit and margin money. They revel in making indiscreet investments and don’t stop-loss. Thus, in case of a downtrend, they are liable to lose their investment. In short, margin callers have to be sharp and lucky.
As a starter, you should hook to a provider that lets you observe meaningful trades. Even in margin trades, there is a safe route.
To deal in margins is to complicate the simple business of currency trading. However, people who don’t have too much money to play with; love the idea of owning huge lots by just paying a small margin. Now, his position becomes quite volatile and he may hit green or red too fast because he has bought or sold a good number.
You are never far from going all-in once you have taken the habit of margin trading. It is a money sapper and you will be on the wrong side most of the times.
There is danger in snatching a cub from a tigress; and there’s danger in margin trading.
I got wise only after I burnt my fingers through margin trading. I would fully utilize the margins and take brash calls. Even when I generally followed my provider’s advice on trades, I lost big money. Now it hurts whenever I wish to hold my positions overnight. Margin trading is, ironically, only for well-equipped and actually even not for them.
If you have made your mind regarding margin trading, stick to a market and create a strategy. Never get dissuaded through small and periodic losses.
Some brokers offer an obscenely high leverage at 400:1, or .25% margin. There, you just need $1 to invest in currency worth $400, and gain profits or losses on the fate of the entire amount. Problem is in its inviting structure that draws continuous trades, and often you find your margin money slowly getting corroded to zero.
If you are offered handsome leverage (say 400:1), you are in a position to trade in massive lots with just small margin money. Problem is that it becomes an addiction and slowly, you find taking undue risks to somehow vacate your bank account.
Don’t float in the Atlantic when you cannot even swim in a pond!
Some brokers offer an obscenely high leverage at 400:1, or .25% margin. There, you just need $1 to invest in currency worth $400, and gain profits or losses on the fate of the entire amount. Problem is in its inviting structure that draws continuous trades, and often you find your margin money slowly getting corroded to zero.
Some people show restraint even in margin trade. They don’t go all-in on one trade but divide their margins to make a number of trades. Thus, even if they lose a small portion, they can recover the amount with the available margin. Many players even become too circumspect and start trading in too many hedging calls.
Margin call is much like poker where chips act as margin. Players don’t put all their chips on one rake and wait for good cards to make a smooth investment. Seasoned players utilize the leverage only when they foresee a surefire trend and buy or sell a good amount on margins. Meaningless margin calls is risky business, but careful margin trading is quite wise.