Why Do Forex Brokers Give Leverage? - Why Do Forex Brokers Give Traders Leverage?
Forex brokers give traders forex leverage so that traders can trade and open bigger forex positions by using little of their own capital and borrowing the rest from their forex broker.
For example 1:100 leverage option means a trader can borrow 100 dollars from their forex broker for every 1 dollar in their forex account, therefore a trader with a deposit of $1,000 can borrow up to $100,000 from forex broker - ($1,000*1:100 which is equal to $100,000). A trader can then use this borrowed capital from their forex broker to open forex trades with.
Forex brokers also give leverage to forex traders so as to make the forex market more accessible to retail forex traders who do not have a lot of capital to trade with. For example with leverage 100:1 a trader with a capital of only $1,000 dollars can open a forex margin account & after leverage they can trade with $100,000 which they borrow from their forex broker using the 100:1 leverage option.
With this leverage a trader can increase both profits as well as losses they make when they open forex trades as shown on example below:
Example of Forex Trading Leverage Calculation: (100:1 Leverage trading 1 Mini Lot)
For 1 mini lot 1 pip equals $ 1
If you make a profit of 100 pips the calculation of profit in dollars is:
1 mini lot
1 pip = $1
100 pips = 100 * 1 = $100
Total= balance + profit
= 1000+ 100
= $1,100 you have just made 10% profit on your trading account balance
If you make a loss of 100 pips the loss in dollars is
1 mini lot
1 pip = $1
100 pips = 100* 1 = $100
Total= account balance - loss
Total= 1000 - 100
Total = $ 900 you have just lost 10% of your trading account balance
From the above example you can see that the more leverage you use the greater the profit or loss and the less leverage you use the lesser the profit or losses.
It is therefore better to use less leverage so that to minimize the risks involved. The higher the leverage used the higher the risk. This is one of the Forex leverage rules not to trade with more than 5:1 leverage.
In Forex leverage rules: It is always advisable to stay below 10:1 which is still high, most professional money managers use 2:1 meaning they trade only 2 lots for every $100,000 in their trading account.
To Learn More about Forex Leverage & Margin - Read the Topics Below:
Forex Leverage & Margin Discussed
