Margin, Leverage, Margin Call, Stop Out

Margin, Leverage, Margin Call, Stop Out

How much money should you have on your account to keep trading? It’s logical that you will need money to maintain open positions. The necessary sum is called margin. Forex brokers set margin requirements for clients. Usually, margin equals to 1-2% of the position size. This notion is tightly linked to the term ‘leverage’. When you trade on margin you use leverage: you are able to open positions on bigger sums than you have on your account.

Let’s see how it works on the example. You invested $10,000 supplying the sum by yourself. This is 1:1 leverage (in essence, this is an unleveraged position), as you don’t borrow anything from the broker. If you earn $100, your return will be 1% ($100/$10,000*100). At the same time, if you lose $100, your loss will be just -1% return as well.  

Imagine that you don’t have $10,000, but want to trade this amount. Forex trading allows you to do that with the help of leverage. In this case, your broker will require 1% margin equal to $100 on your account. This is your used margin. The leverage is 100:1 because you control $10,000 with just $100. The remaining 99% is provided by the broker. The margin is needed for broker’s security in case the market goes against your position. In the case of $100 profit, your return will be 100% ($100/$100*100). However, if you lose $100, it the return will be -100%. As you can see, with leverage small movements of the currency pairs can result in larger profits or larger losses when compared to an unleveraged position.

In your terminal “Trade” window you can see columns “Balance”, “Equity” and “Usable Margin”. Your usable margin will be always equal to “Equity” less “Used Margin.”

Brokers usually define margin call level. At FBS, a margin call is at 40% and lower. It means that you’ll get a margin call if your account equity drops to 40% of the margin and lower (in our case 40% of $100 is $40). In this case, you will receive a warning from your broker that you need to close your trade or deposit more money to meet the minimum margin requirement. In addition, beware that the broker will have to close your position at the current market price if the ratio of your deposit to your loss will reach so-called stop out level. As stop out equals to 20% at FBS, this will happen if your equity drops to $20 (20% of the margin and lower). Sometimes, margin call and stop out are the same, and if your drops below 100% of the minimum requirement to trade the position is closed without any warnings.

Margin requirements, margin call and stop out levels are set by the broker for each account type and shown at its website. As a trader, you should do your best to avoid hitting margin call and stop out levels.

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