Question about leverage and growth

I was thinking about growth and leverage, and I am kind of stumped. I found an ECN that offers 100:1 leverage and I am trying to convert that number to a concrete growth number. Say that I start with $2500 and can grow at 400 pips per month (I know right, wouldn’t it be great?), risking 1% of account per trade. What does this translate to as far as percent of account growth per month?

I was thinking like this: 1% of the account would be $25. So, with 100 leverage, this becomes $2500 order size? So that would mean that a single pip would be worth $0.25, I think? So would that mean that 400 pips would result in $100 growth over the first month, which is 4% of the account?

I feel like I’m missing a lot of pieces, but can’t figure out what they might be. Does anyone know if I’m completely off my rocker?



Hello, Dean

In order to answer your question, more information is required than you have provided.

Booking a net gain of 400 pips every month is a significant accomplishment. But, it doesn’t tell us [B]how much money[/B] those 400 pips earned for you. To get that information, we need to know your position size.

To keep things simple, let’s say you make those 400 pips in one trade, and let’s say that you repeat this month after month.

If that one trade involves [B]one micro-lot,[/B] then 1 pip is worth about $0.10, and 400 pips is worth about $40 total profit for the month. For the first month, your account would grow 1.6%.

If you made the same one-micro-lot trade, month after month, the [B]rate of growth[/B] in your account would decline gradually, as your account balance gradually increased. In order to keep growing your account by 1.6% per month, you would have to increase your position size in proportion to your growing account balance.

Now consider trading [B]one mini-lot,[/B] instead of one micro-lot. One mini-lot = 10 micro-lots. So, in this case, 1 pip would be worth about $1, and your profit for the month would be about $400. That works out to a 16% rate of growth in your account the first month.

[B]Risk percentage and position size[/B]

Babypips has a Position Size Calculator, which you should become familiar with. It asks you for 5 bits of information: your account currency, your account balance, your risk percentage, your stop-loss (the missing bit of information in your example), and the currency pair you are trading. When you enter those pieces of information, the Calculator will compute your position size.

Going back to our hypothetical one trade per month, above, let’s say that you are trading the GBP/USD pair, and let’s say that your trade involves a 40-pip stop-loss. You have specified a 1% loss limit, which means that, if this trade goes bad and you get stopped out, your 40-pip loss will cost you 1% of your account (that is, $25). Now we can figure your position size, and from that we can figure how much money a 400-pip gain will generate. Then, obviously, we can calculate the percentage gain in your account.

The Position Size Calculator tells us that you can trade 6,250 UNITS of base currency (if you have the sort of forex account that lets you trade in UNIT quantities), or you can trade 6 micro-lots (if you have a micro account).

Let’s say you have a micro account, you trade 6 micro-lots, and you earn 400 pips. The dollar-value of your 400 pips will be $240 (at $0.10 per pip per micro-lot x 400 pips x 6 micro-lots). And a $240 profit represents a percentage gain in your account of 9.6%.

If you placed this same trade, month after month, and made the same 400 pips every month, you would have to increase your position size in proportion to your increasing account balance, in order to keep growing your account by 9.6% each month.

Here’s where you can find the Babypips Position Size Calculator:

Click on [B]Tools[/B] at the top of this page, then click [B]Forex Calculators[/B], and then cliick [B]Position Size Calculator.[/B]

Does it surprise you that your [B]100:1 leverage[/B] has nothing to do with this calculation? Think about that.

Clint, consider my mind blown. I can now see how I have been going about this entirely the wrong way… I remember thinking about how the 50:1 U.S. leverage limitation would force me to go offshore to find a broker. Now I am starting to think that may have been misguided.

But if the leverage makes no difference in this scenario, then why do people emphasize it? If I think about it hard, all I can come up with is that a higher leverage might allow one to have more open positions at the same time without tying up all the money in one’s account? But to me it seems that it really wouldn’t make a difference in most situations, unless one wants to open a ton of positions. Maybe I’ll just leave this as a rhetorical question.

Thanks Clint, this has opened up a world of new possibilities.

Hello again, Dean

You are right on both points.

• For most traders (and almost all newbies), the 50:1 maximum allowable leverage rule here in the U.S. is not a problem. Unless you are an experienced forex trader, I suggest that you start out with a reputable U.S. broker, and stay away from the offshore broker scene for now.

At some point in the future, the special rules which the NFA and the CFTC have imposed on U.S. forex accounts — the leverage restriction, the FIFO rule, the prohibition against hedging, etc. — may become an issue for you, depending on how you trade.

But, for now, you don’t need the extra hassles that often accompany trading through a foreign broker who may be half-way around the world, who may speak English as a second language, and who may be regulated by a foregin entity you know next-to-nothing about.

• Regarding the leverage question, you are correct that inadequate leverage can be a problem in certain types of trading.

For example, simultaneously trading a large number of uncorrelated positions could be acceptable from a risk-management standpoint, but could run into margin trouble if allowable leverage is too restricted. Some EA’s and robots typically trade large numbers of positions simultaneously, and traders who use those methods claim to need much higher leverage than is needed by most traders.

Scalping, whether automated or done manually, can require high leverage. If a scalper typically risks 2-4 pips per scalp, and a day-trader typically risks 20-40 pips per trade, the scalper could reasonably trade 10 times the position size of the day-trader, obviously using 10 times the leverage that the day-trader uses.

Most likely, neither of those two scenarios would apply to a new trader who is just beginning to learn this business.

Here are a couple of recent posts which deal with various aspects of the “leverage” topic. They might fill in some of the blanks for you.

Much obliged, Clint. This previously murky topic is finally becoming crystal clear to me.

I read the “About Leveraging” thread. I left you a question over there Clint. Your posts are highly regarded by this user. :slight_smile: