So you have finally decided to start trading Forex, that’s already a huge step forward on this market. We all know how you might be feeling right now. This market can get very confusing, but don’t turn back yet. Although everything seems very hard to understand, at the end of the day, there are several basic concepts that you need to understand to become a successful trader. But remember, practice is something that can make you good at trading.
Many newcomers don’t understand the meaning behind Forex trading leverage, some do understand but they have a lot of misconceptions about it. There are many beginners who are doing their best to avoid using leverage, but the fact of the matter is that if it is used in the correct way, it can actually be very helpful.
Today, we are going to talk about Forex trading on leverage and will try to offer you a great insight on high this works, and why you should or should not use it. So, follow us as we dive deep into the world of trading and learn everything that there is to be learned about leverage in the world of Forex trading.
Meaning & importance of Forex leverage
One of the major reasons why so many people are drawn to Forex trading is the fact that it has much higher leverage to offer to investors than other trading markets. However, even though you might have already heard the word leverage, you might be having a hard time understanding its real meaning.
To say it is the easiest way possible, leverage is a type of borrowed money, which is used by investors to increase the trading position far beyond what would be done with the trading balance alone. Leverage is available thanks to margin trading, which means that brokers are the ones that provide the borrowed funds to investors. While using leverage, FX traders have the ability to profit from relatively smaller price changes on the market. However, while it is true that leverage makes profits higher, it can also increase your losses.
Forex leverage explained
While using leverage, you are borrowing a certain amount of funds that you need to invest in the market. When talking about FX leverage, the money is mostly provided by the broker. FX trading market is known to offer higher leverage than other markets, however, recently, many regulatory agencies around the world announced that they are working on new guidelines that will make sure that brokers are not able to offer very high leverage to investors because it has so many risks.
If you want to calculate the real leverage that you are using, you should follow the following Forex leverage formula: divide your total value of the transaction, by total trading capital.
So, let’s say that you have $1,000 on your trading account, and you want to open a position that is equivalent to one standard lot, which is $100,000, which means that you are trading 100 times of your leverage on your account.
If you want to use leverage, you should be sure that you understand all of the risks that come with it. There are many people who have lost huge amounts of their money while using high leverage because they simply did not understand how it works. So, make sure that you understand everything about it before you start using it.
Generally, most of the Forex brokers on the market offer a leverage of up to 1:100, granted, you can also find brokers that offer leverages up to several thousand. However, that is very dangerous and should be avoided. In Asia, for example, there are not that many regulations regarding leverage. This means that investors can trade with as high leverage as 1:1000, or even more.
If you are trading with a leverage of 1:100, it means that for every $1,000 in your trading account, you are able to trade the value of $100,000.
While trading, the currency movements are monitored in pips. These are the smallest changes in currency prices. In reality, the movements on the market are just fractions of a few cents, which means that if you are using short trading strategies, you can’t really make a lot of money without leverage.
Forex leverage – When and how to use it
The Forex leverage amount that you are using depends on many factors. First of all, if you are a total beginner and you don’t really know much about trading, it is much better to use low leverage, somewhere between zero to 1:10. This way, you will have enough time to understand how leverage works and tell whether or not you want to use it in the future.
On the other hand, it also depends on the trading strategy that you are using. There are many available trading strategies on the market and all of them are created so that everyone can find something that they can easily use. There are some of them known as short-trading strategies, the most known ones of them are scalping strategy and day trading strategy. While using these two, you will have to open and close several short-term positions during the trading day, which means that you will not have a huge income from using these strategies.
In this case, investors prefer to use higher leverage to make sure that they make some income. On the other hand, those who are using a long term trading strategy will not have to use such high leverage because they are opening very long positions. In the end, no matter what you are doing, while using leverage you must do your best to make sure that you know what you are doing.
So, Forex scalping leverage, in most cases, is higher than the ones used by long term traders. Because scalpers open several short positions a day, they don’t really make much money with it. Because of this, it is very important for them to use high leverage to make sure that they are getting good profits.
Risks of high leverage
While trading Forex, there are a lot of risks that are involved. While using very high leverage, you are opening yourself to higher risks.
It is true that leverage can be a very important thing to make your profits higher, but it can also be very dangerous if you don’t use it right. Investors should be very careful while using high leverage. But, a very interesting thing about leverage is that, although it is quite risky, it is still very actively used by investors on the market.
To make sure that you are staying safe while using leverage, there are a few things you can do. First of all, always do your research and only make moves when you are 100 percent sure of the outcome. If you feel like the market won’t go the way you have planned, it is much better to try to avoid using leverage, as it can be very risky.
While doing Forex brokers leverage comparison, it can be seen that not everyone has the same leverage. They all offer different types of leverage depending on their location. In the EU, the leverage is mostly not higher than 1:50, while in most Asian countries the leverage can go as high as 1:1000.
There are several ways you can avoid the risks that come with leverage. Top Forex brokers on the market have special tools to help people to stay safe while using leverage. One of them is called Negative Balance Protection. Thanks to the negative balance protection, investors will make sure that they don’t lose more money while trading than they already have on their trading account.
This has actually happened quite a few times on the market. When you open your position with high leverage, if you do not have enough resources on your trading account and the broker does not have negative balance protection, you will end up with a negative balance. On the other hand, if the broker offers negative balance protection, once the amount of money on your account nears zero, the position will be closed on its own.
When should you use leverage?
If you are a complete begging on the market, it is much better to avoid using high leverage. If you want to use leverage, it is better to use a leverage of 1:10. A great way to start using leverage is to do so by using demo trading accounts. Using forex leverage demo accounts will give you the ability to get used to the way it works. It is a very important thing to do so if you are a beginner, because, mostly, newcomers don’t really understand how influential can leverage get.
While trading Forex, there are some situations where you really need leverage. As we have already said, this is especially true if you are using short term trading strategies, like, scalping. Because the pay off of this strategy is not that big, by using leverage, you will increase the profits that you can have with each position that you open. Also, because the positions opened during scalping are not that big, the risks are not that high as well.
Also, if you have been trading on this market for a long time now and you are comfortable with your decision-making skills, using leverage can be very helpful. If used in the right way, Forex leverage has the ability to make your profits much bigger, which is a very important thing for many investors.
Final thoughts on Forex leverage
Forex leverage can be very helpful for many traders. However, if you do not have enough experience with leverage, starting trading with high leverage is not a good idea at all. Generally, leverage from 1:10 to 1:100 is okay to use, especially if you have done your research and know that your positions are trustworthy.
Before you start using leverage, however, make sure that you are investing with a trustworthy Forex broker. There are many companies in the market, but not all of them can be trusted. The number of FX brokers on the market is increasing every day, and it can get very hard to tell the difference between legit and scam companies. One thing that you can do is to use only the most trustworthy FX brokers on the market, that are licensed and authorized by official regulatory bodies on the market.