Best Leverage for Standard Account - Leverage and Margin Trading Explanation and Example

FX Leverage & Margin Explained

Margin required : It is amount of money your broker requires from you as a trader to open a transaction. It's expressed in %s.

Equity : It is total amount of capital you have in your trading account.

Used margin : sum of money in your trading account which has been already used up when buying a currency contract, this contract is one that's displayed in open positions. You can't use this sum of money after opening a transaction order transaction because you've already used it & it's not available to you.

In other terms, because your online broker has opened up a position for you using capital you've borrowed, you must maintain this usable margin for your account as a collateral to allow you to continue using this leverage he has given to you.

Free margin : amount in your trading account that you can use to open new trades. This is amount of money in your trading account which hasn't yet been leveraged because you haven't yet opened a transaction with this money - this money also is very important for you as a investor because it enables you as a trader to continue holding your open trade transactions as will be explained below.

However, if you over use leverage, this free margin will drop below a certain % at which your broker will have to liquidate all of your trade transactions automatically, leaving you with a large loss. Broker at this point closes all your trade transaction because if your trades were to be left open they would lose the money you've borrowed from them.

This is why you should always make sure you've a lot of free margin. To do this as a trader never trade more than 5 percentage of your forex account, in fact two percentage is recommended.

Difference Between Trading Leverage Set by the Broker and Used Leverage

If the set leverage is 100: 1, it means that you can borrow up to $100 dollars for every dollar that you have in your forex account but you do not have to borrow all the 100 dollars for every dollar you've, but you can decide to borrow 50:1 or 20:1. In this case even though the trading leverage option set 100:1 your used leverage will be the 50:1 or 20:1 that you have borrowed to make a trade transaction.

Example:

You have $10,000 dollars (Equity)

Set 100:1

Leverage Used = Amount used /Equity

1 Contract, 1 Standard Lot

If you buy one standard lot which is equal to 100,000 dollars you'll have used

= 100,000/10,000

= 10:1

0.5 Contract, $50,000 Standard Lot

If you buy one 0.5 lots which is equivalent to $50,000 dollars you'll have used

= 50,000/10,000

= 5:1 leverage

0.2 Contract, $20,000 Standard Lot

If you buy one 0.2 lots which is equal to $20,000 dollars you'll have used

= 20,000/10,000

= 2:1 leverage

In these 3 cases you can see that although the set maximum leverage is 100:1

The used leverage ratio is 10:1, 5:1 & 2:1 depending on the size of lots traded.

So Why not Just Select 10:1 leverage option as the Maximum Leverage? Because to keep within the suitable risk management principles it is even recommended that investors use less than this?

This question might seem straight forward but it's not, because when you open trades you use borrowed money known A.K.A. Leverage. When you borrow capital from anyone or a bank you must maintain security or collateral to acquire a loan, even if the security is depending on monthly deduction from your own salary, same thing with Forex Trading.

In fx trading the security is referred to as margin. This is equity you as a trader deposit with your online broker.

This is calculated in real time as you trade. To keep your borrowed amount you must maintain what is referred to as the required capital (your deposit).

Now if Your Trading Leverage is 100:1

When trading if you have $1,000 in your forex account and use trading leverage ratio 100:1 & buy 1 standard lot for $100,000 - your margin on this transaction is the $1,000 dollars in your forex Standard account, this margin is the money that you will lose if your open trade moves against you - the other $99,000 that's borrowed, the broker will close the open trade transactions automatically once your $1,000 has been taken out by market.

But this is if your forex broker has set 0 % Margin Requirements before stopping out your trades automatically.

For 20 percent margin requirement before liquidating your trade transactions automatically, then your trading transactions will be closed once your account trading balance gets to $200

For 50 % margin requirement of this level before liquidating your trades automatically, then your trading transactions will be closed once your account trading balance gets to $500

If your online broker sets 100% margin percent level requirement level before automatically closing your open trade positions, then your open trades will be automatically closed once your account balance gets to $1,000: Meaning that the trade will be closed out as soon as you open it because even if you pay 1 pips spreads your trading account balance will get to $990 and the needed percent is 100% i.e. $1,000 dollars, therefore your trade orders will immediately get closed out.

Most brokers don't set 100 Percent requirement, but there are those brokers who set 100% are not suitable for you at all, select those set 50 percent or 20 percent margin requirements, in fact, those brokers that set it at 20% are some of the best since due to the likely-hood they close your trade position is reduced as displayed in the above example.

To know about this margin level which is calculated by your Meta Trader 4 automatically - the MetaTrader 4 Software will show this as "Margin Requirement", This will be displayed as a percentage the higher the percentage the less likely your trades are to get closed.

For Examples if - (using a online broker that requires 20 % margin requirement)

Using 100:1 leverage

If leverage is 100:1 & you trade 1 Standard Lot, equals to $100,000

$100,000(Standard lots) divide by 100:1, your used funds is $1000

Calculation:

= Capital Used * Percentage(100)

= $1,000/$1000 * Percentage(100)

Margin Requirement = 100 %

Investor has 80% above required margin trading level amount

Using 10:1

If leverage is 10:1 and you transact 0.1 Standard Lots, equals to $10,000

$10,000 dollars divide by 100:1, your used trading capital is $100

Calculation:

= Capital Used * Percentage(100)

= $1,000/$100 * Percentage(100)

Margin Requirement = 1000 %

Investor has 980% above required margin trading level amount

Using 1:1 leverage

If leverage is 1:1 and you transact 0.01 Standard Lot, equals to $1,000

$1,000 dollars divide by 100:1, your used capital is $10

Calculation:

= Capital Used * Percentage(100)

= $1,000/$10 * Percentage(100)

Margin Requirement = 10,000 %

Investor has 9800% above required margin trading level amount

Because when a trader has a higher leverage means that they have more margin requirement percent above what's required(A.K.A. More "Free Margin") their open trades are less likely to get liquidated. This is reason why traders will select option 100:1 for their forex trading account but according to their risk management rules, they won't trade above 5:1 leverage option.

These Margin Levels are Shown in the MetaTrader 4 Screen Shot Below as an Example:

MetaTrader 4 Platform Margin & Free Margin - Leverage and Margin for Standard Account Explained