As a request I am going to try to explain leverage and margin in a
simple and clear form. If you are already confused about this concept, I
ask you to clear your head and make a blank canvas because the
subject is not as hard as many make it out to be.
If you are already confused about it, it�s probably because you
learned leverage from a write up that contained fancy rhetoric that
was trying to impress you with their over complication of a simple
subject instead of trying to teach you.
First, we are for the sake of being simple, going to assume all
standard lots control $100,000 worth of currency, all mini lots
control $10,000 worth of currency, and all micro lots control
$1,000 worth of currency. We all know this is not exactly accurate, but
it will keep the examples simple.
Now on to the lesson:
When you sign up for a brokerage account you choose your [B]account
leverage[/B]. If you chose 100:1 that means you are able to control up to
100 times the available equity in your account by only putting down
1/100th the value of the contract value as margin.
[B]Margin[/B] is what your broker wants you to secure the position with. If you
bought a mini lot ($10,000 worth of currency) with an account leverage
of 100:1, your broker would want you to secure the position with $100. If
your account equity ever fell below this $100 you could face a margin call.
Now here�s where I think people get confused. There�s another kind
of leverage called [B]true leverage[/B] or [B]real leverage[/B]. We are going to
call it true leverage in this lesson. There�s a big misunderstanding
that I have seen by people thinking that if their account leverage
is 100:1 that every trade they take is at 100:1 leverage. That is
wrong and I can see why you would be confused thinking that
way.
When your broker gives you your account leverage ( lets assume
100:1 is what you chose), you are allowed to use your leverage up
to 100 times your equity amount. That doesn�t mean you are.
Leverage lets you control a greater value of contract sizes without
having to secure the whole contract amount with your account
equity. So if you have $1,000 in your account, you can control
a contract size on a currency pair worth up to $100,000. Divide
$100,000 by 100 and your margin requirement is $1,000. ( Your
whole account!)
So now you may be asking �Whoa! I don�t want to put up my
whole account as margin on each trade I take. That sounds
very very risky and dumb�.
Well this is where [B]true leverage[/B] comes in. Lest say you have
$1,000 in your account and want to buy a mini lot ( a contract
worth $10,000 ). So lets do the math 10000/1000 = 10.
Your true leverage is now 10:1 but your account leverage
is 100:1. So you will need to put up (lets do the math
10000/100 = 100) $100 dollars as margin to secure
the position.
So a conclusion is [B]account leverage[/B] decides your margin
requirements and how much leverage you are allowed
to use. [B]True Leverage[/B] is how you actually choose to trade using
your risk and money management.
A hope this helped out. If not, I tried.
Senior members, if I screwed this up, please point
it out.;)
