Forex Money Management

Leverage and Forex Money Management

Leverage

The use of credit or borrowed funds to improve one's speculative capacity and increase the rate of return from an investment

When trading in the Forex market, the credit or borrowed funds comes from your broker, and this is an important note to remember.

Brokers earn their money from the Spread but they also earn when leverage goes against you!

Leverage is a big sledgehammer. Swing it slowly and carefully or you'll hurt yourself. Leverage is also a requirement when talking about currency fluctuations because currencies really only move a couple of cents or percentages each day and you need leverage to amplify or multiply these small changes into larger profits.

If you control $100 and the price goes up 1%, you make $1 - If you control $100,000 and the price goes up 1% you make $1000 - but you can also lose $1000 just as easily!

Brokers work on the probability that most highly leveraged speculators lose, and they are able to take an opposite position to them as they trade in a different market to the Retail Traders. The easiest way to get big profits from Retail Traders is to offer highly leveraged accounts.

Use the MetaTrader 4 Forex Money Management Position Calculator to help minimize the exposure to your Leveraged account.

Many people are attracted to the forex market because of the higher leverage offered than other financial instruments. Calculating your leverage requires an understanding of Margin, which in short is the balance in your Trading Account.

Margin Based Leverage = Total Value of Transaction / Margin Required

If 2 Traders have the same Trading Account balance of, of $10,000 USD, and Trader One has 100:1 leverage and Trader Two has 400:1 leverage, Trader Two with 400:1 leverage will be able to risk more of his $10,000 Trading Account balance at one time than Trader One with 100:1 leverage. Trader Two with 400:1 leverage is required to have less in their account as a margin to cover their position.

Your margin based leverage is the minimum balance in your account required to open a position, however you could open a position using more than this minimum requirement and place more of your Trading Account balance at risk - this will be your Real Leverage value.

Real Leverage = Total Value of Transaction / Trading Account Balance

For example, if you have $10,000 in your account, and you open a $100,000 position (which is equivalent to one standard lot), you will be trading with a 10 times leverage on your account ($100,000/$10,000).

This means that the margin-based leverage is equal to the maximum real leverage a trader can use, but since most traders do not use their entire accounts as margin for each of their trades, their real leverage tends to differ from their margin-based leverage. Although your broker may allow you to leverage up to 400:1 or even 500:1, it's a safer practice to use a lower level of leverage and have a higher balance in your trading account.

Leverage does not affect the value of a lot (unit of currency) but has an effect on the number of lots you can have in the market, based on the capital in your account.

It is important to understand how leverage in the forex market can be used against you with the broker playing the shark, which leaves you as the Retail Trader being the shark food.

Bird Watching in Lion Country describes a successful trading system that uses low leverage

Use the MetaTrader 4 Forex Money Management Position Calculator to help minimize the exposure to your Leveraged account.