Leverage is a technique which enables traders to ‘borrow’ capital in order to gain a larger exposure to a particular market, with a relatively small deposit.
What is Leverage In Forex Trading?
Leverage in forex trading refers to the use of borrowed funds from a broker to increase the potential returns on a trade. Forex brokers offer traders the ability to leverage their trades, allowing them to control larger positions in the market than their trading account balance would otherwise allow.
For example, if a trader has a trading account balance of $1,000 and uses 100:1 leverage, they would be able to control a position worth $100,000 in the market. This means that any gains or losses on that position would be magnified by a factor of 100.
While leverage can amplify potential profits, it also increases the potential risks. If the market moves against the trader’s position, losses can also be amplified by the leverage. This is why it’s important for forex traders to have a solid risk management strategy in place and to only use leverage in a responsible manner.
Forex brokers typically offer different levels of leverage depending on the trader’s experience and the broker’s regulations. Traders should choose a leverage level that suits their risk tolerance and trading style, and should always be aware of the potential risks associated with leverage.
How does leverage work?
Leveraging, which is also known as trading on margin, means you can make a profit if markets move in your favour, though you can also lose more than your initial deposit should markets move against you. This is because any profits and losses are based on the full value of the trade, and not just the deposit amount.
Forex is traded on margin, with margin rates as low as 2%. A margin rate of 2% can also be referred to as ’50:1 leverage’ (leverage is commonly expressed as a ratio). This means you can open a position worth up to 50 times more than the required deposit to open the trade.
Managing risk in FX trading
As much as leveraging can be seen as a way to increase your profit, it also magnifies your risk. For that reason, having a good risk-management strategy in place is essential for forex traders using leverage. Forex providers usually provide key risk-management tools such as stop-loss orders, which can help traders to manage risk more effectively.
A stop-loss order aims to limit your losses in an unfavourable market by closing you out of a trade that moves against you, by specifying a price that you would like to have the trade closed at. You are essentially specifying the amount you are willing to risk on the trade.
A take-profit order works in the same way as a limit order, in that it’s always executed at the target price you specify. Where the market for any product opens at a more favourable price than your target price, your order will be executed at the better level, passing on any positive slippage.
Trailing stop-loss orders
A trailing stop-loss is a cross between a stop-loss and a take-profit order. It aims to limit your losses when the market moves against you; however, when the market moves in your favour, the stop-loss moves with it, aiming to secure any favourable movement in price.
Guaranteed stop-loss orders
Guaranteed stop-loss order (GSLOs) work in a similar way to stop-loss orders, with the main difference being that a GSLO has the effect of placing an absolute limit on your potential losses on a particular trade, as it ensures that your trade is closed at the price you specify. For this benefit, there is a premium charge that is payable on execution of your order. This charge is displayed on the order ticket. We refund this premium in full if the GSLO is not triggered.