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What is Leverage in Forex and How to Use It?
What is Leverage in Forex and How to Use It?

It is essential for every newcomer to master the basic Forex market terminology in order to start profitable trading activity. Without this information, a trader won't be able to have a clear understanding of everything that is happening on the platform, therefore no rational and measured decisions can be made.

Most newcomers are likely interested in finding out what Forex leverage is. It is impossible to open an account with any broker unless this indicator is selected. On the other hand, random parameter selection is the worst thing you can do. So, it's better to invest your time and deepen your understanding of the Forex terminology.

Fundamental information

So, let's figure out what the Forex leverage is and what impact it has. Actually, the answer is quite simple. It derives from the notion. Leverage is a credit ratio that varies over a wide range of values. In fact, it allows all market participants to sell and buy much more than they can afford.

Let's take the following example to understand this issue more deeply:

For example, you register with a broker and choose to trade with a leverage of 1:100. You have only $100 on your deposit. But the selected leverage will allow to make transactions for the amount up to 10 thousand dollars. Within the limits of this amount, a trader can open transactions and generate profit. To secure proper funds, a broker sets a loss threshold equal to the amount of the trader's account.

As soon as the transaction is closed, the deposit amount (all on the trader’s deposit) remains in the player's account plus the profit earned. In case the transaction was unprofitable, a trader would lose only the amount available on his account.

This raises a quite reasonable question: "What is the Forex leverage for the broker and what benefits does he get from it"? Keep in mind that a broker's profit depends on the funds turnover. The more investments involved, the higher the earnings of the broker.


The Pros and Cons of the Coefficient

Upon clearing the issue of what Forex leverage is, its advantages become obvious:

 

  1. Even small market fluctuations can provide a lot of profit for the trader. He can enter larger transactions even though he doesn't have his own funds to implement this.
  2. Quick start in capital-intensive directions, even with limited capital.
  3. Brokers do not charge any commission for the use of borrowed funds, which means that this option is suitable even for a newcomer to the market.

 

However, the leverage has several notable drawbacks. Namely, there is always a risk of losing all the money in the account if the trend changes and the transaction turns out to be unsuccessful.

At the same time, you should keep in mind that such Forex leverage, as 1:100 or 1:600 can have the same risks, since it all depends on the characteristics of the transaction itself:

 

  • market situation;
  • asset price;
  • trading strategy.

 

Note that not every transaction on the financial market can be realized with borrowed money.


Useful Information for Novices

Upon deepening their understanding of Forex leverage, newcomers are emotionally excited, hoping that several transactions for borrowed money will generate enormous capital. That's their mistake, which leads to a loss of funds on the deposit.

Under no circumstances a newcomer should break his head, using the leverage of 1:500 for all 150 dollars and entering the market disorderly. Start with small borrowings, improve your strategies, deepen your knowledge.

If these rules are strictly followed, the risk of losing everything will be reduced to a minimum:

 

  1. Remember that the borrowed funds provided according to the Forex leverage are not your own money. It's a kind of booster that allows you to make more profit.
  2. In-depth study of the question: “What is Forex leverage?” allows you to understand that this is not a loan capital, but a special tool that allows you to implement the desired strategy in case of personal money shortage. After the transaction is completed, the loan should be returned to the broker.
  3. Quite often, a large leverage is given for small amounts. But don't look for the best offer. It is better to get the desired profit in 5-10 transactions with less leverage than to lose the whole deposit at once.

 

Despite the risks, there is no need to refuse the use of leverage. Benefit reasonably, be guided by common sense and do not stop learning more about the Forex market.

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