What is Leverage in Forex Trading? – How forex leverage works
How forex leveraging works
What is Leverage in forex trading? In finance, Leverage is any method involving the use of borrowed funds in purchasing an asset, with the expectation that the after-tax income from the asset and asset price will appreciate by exceeding the borrowing cost. Leverage can be a fascinating method in enabling an investor to accomplish desirable profits for trading equity. For example, a plastic company could borrow money to build a new factory that will increase the production of the company and ultimately increases its revenue and profit.
What is Leverage in Forex Trading?
In the world of forex trading, leverage simply means accessing a larger portion of the market with a smaller deposit, and then you would be able to via traditional investing. This gives you the lead of getting greater earnings for a small up-front investment, though it is important to note as a trader that you could be at higher risk of losses when using Leverage in forex trading. In finance, it is when you borrow money, to invest and make more money due to your increased buying power. Once you return what you borrowed, you are still left with more money than if you had just invested your own capital.
How Does Leverage Work for Trading?
It’s important to understand the use of Leverage in trading. Here is an example.
The price for one Gold is $1,000. The trader believes the price is going rise and hope to open a large buying position for 10 units. The price for this position will be $10 ,000 which is not only a large amount to risk, but many traders do not possess such amounts. With a 0.50% margin, the amount will reduce considerably. Meaning that for every $200 of rate in the position, the trader will need to use $1 out of his account.
Here is an easy way to calculate Leverage in trading; To measure the Leverage for trading – just use the below-mentioned leverage formula.
Leverage = 1/Margin
Leverage =100/Margin Percentage
Risks of Trading with Leverage
- You are open to interest rate risks. If interest rates increase, the cost of borrowing capital will also increase.
- You are subject to political risks; it can affect the value of your position and make it impossible for you to exit your position.
- One can be exposed to market risks, especially if you are unaware that your position has moved during hours when you are not watching the market.
Why Is Leverage Offered in Forex Trading?
- Forex markets are very liquid; You can enter and exit with very little slippage.
- Forex markets are less volatile; The average volatility on major currency pairs is close to 10%.
- Forex markets are open around the clock; you can trade-in and out 24-hours a day, 5-days a week.
- Forex leverage can increase its level up to 500:1.
Leverage in forex trading, Leverage is a double-edged sword in forex trading, and while it can help you produce increased profits, it can also create significant losses. Trading with Leverage entails many risks, but the most noticeable risk is market risk. Your forex broker will charge a margin interest fee when you transact with borrowed money. Once you put your first trade, make sure you are aware of all the leverage fees.
Lastly, you should spend time to go through examples of how Leverage will affect your expected gain and loss.
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