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Forex Trading with Leverage is both a positive and negative tool in your forex trading kit. If used wisely, it has the potential to augment the value of your trades considerably. But when used with little control or skill, it can wipe out your entire forex trading account within seconds.
What is Leverage?
Leverage is essentially borrowing funds from your forex broker to increase the value of your trades. When applying leverage, if you deposit, for example, $1,000 into your forex trading account and use a leverage ratio of 1:200, you can invest up to $200,000 on your first currency trading position ($1,000 x 200).
This amount will rise and fall according to how much money is in your trading account at a given moment and most forex brokers automatically adjust the amount of leverage you can apply to a trade based on your current trading account balance. You need a minimum capital (also known as margin) in your account balance in order to apply leverage to a given trade.
Pros and Cons of Forex Trading with Leverage
As previously mentioned, leverage is both a positive and negative tool in your trading kit. With the right money management rules, you don’t need to apply too much leverage to a trade, as leverage can be a very risky tool that results in major financial losses with one wrong move.
For example, if you are using the leverage of 1:100 and have a $1,000 trading account then each pip movement made is worth $10. If your stop loss is ten pips away from an entry and is hit then you have automatically lost $100 – a huge 10% of your entire trading account balance. On the other hand, if a trade travels in your favor then your chances of making major profits on the trading platform are notably increased.
Despite the advantages, it is advised to tread with complete caution when using leverage. To avoid negatively impacting your trading account it is important to follow a strict money management strategy that applies a maximum risk percentage per trade. If we use the above example if you apply a maximum risk of 2% per trade with a $1,000 account balance and a ten pips stop loss, with a leverage of 10:1 each pip is worth $1, resulting in just a $10 loss instead of $100.
To Leverage or Not to Leverage?
Although leverage has the potential to augment your account balance significantly, it can also be very dangerous. As you can see it is important to incorporate a strict money management strategy when trading forex and using leverage. Otherwise, you risk eating away at your forex trading account balance too quickly and destroying your chances of success on the trading platform. Learn more about our Forex Leverage.
