What leverage does, it allows a trader to trade money he/she doesn't possess. We may call it virtual money trading. While making profits with virtual money is possible, it is absolutely impossible to lose virtual money, instead traders lose only real money they have invested or earned as a result of profitable trading."
Let's take an example.
Invested capital = 1000 US dollars.
Leverage 200:1
Buying/selling capability = $1000 * 200 = $200 000
This enables a trader to buy/sell a regular trading lot size of 100 000 units, which looks good and feels good (when think about potential profits). But is it safe?
Leverage allows to trade larger positions on the market. Larger positions mean larger profits when a trader wins a trade, but also larger losses if a trader was wrong on the trade.
In our case (with 100 000 units lot size) each pip a trader earns brings him $10 profit, but each pip he loses cost him -$10.
Leverage concerns are all about losses. So let's focus on the simple math.
A normal regular situation: the market moves 20 pips against an open position and our trader loses 20 pips.
20 times $10 equals -$200.
Those $200 dollars will be subtracted from initial $1000 account balance, which will bring it down to $800. (Buying/selling capability will now match $800 * 200 = $160 000)
What we actually have is that 1/5 of traders' initial investment has been lost in just one trade(!) — a trade where conditions were moderate, e.g. losing 20 pips is not a big deal for currency trading; traders on average may lose 50-70 pips on each trade. No need to mention that in two consecutive losing trades of -50 pips each, our trader would lose his/her entire account, it is so quick!
-50pips * $10 = -$500
-$500 * 2 = -$1000
That's why you hear traders calling high leverage "leverage the killer".
Conclusion: one cannot trade with large virtual money having invested little real money. Highly leveraged account and high buying/selling capability doesn't mean one should be trading away with large trading lots.
In our case, having invested 1000 US dollars no matter at what leverage, a trader can only trade reasonably with a lot size of 10 000 units (or less) where each pip would cost $1 (or less). Hence, losing 20 pips would mean losing only $20 on one trade. We advice trading with pip cost smaller or equal to $1 for accounts smaller than $1000 dollars. (1 pip = $1 when trader open 1 lot of 10 000 units)
If we cannot use our buying/selling capability provided by leveraged account, how can we use leverage then? What difference would it make if we take lower or higher leverage?
We need higher leverage to have lower margin. But before we have have to learn what margin in Forex is.
Courtesy: http://www.forex-money-management.com
Let's take an example.
Invested capital = 1000 US dollars.
Leverage 200:1
Buying/selling capability = $1000 * 200 = $200 000
This enables a trader to buy/sell a regular trading lot size of 100 000 units, which looks good and feels good (when think about potential profits). But is it safe?
Leverage allows to trade larger positions on the market. Larger positions mean larger profits when a trader wins a trade, but also larger losses if a trader was wrong on the trade.
In our case (with 100 000 units lot size) each pip a trader earns brings him $10 profit, but each pip he loses cost him -$10.
Leverage concerns are all about losses. So let's focus on the simple math.
A normal regular situation: the market moves 20 pips against an open position and our trader loses 20 pips.
20 times $10 equals -$200.
Those $200 dollars will be subtracted from initial $1000 account balance, which will bring it down to $800. (Buying/selling capability will now match $800 * 200 = $160 000)
What we actually have is that 1/5 of traders' initial investment has been lost in just one trade(!) — a trade where conditions were moderate, e.g. losing 20 pips is not a big deal for currency trading; traders on average may lose 50-70 pips on each trade. No need to mention that in two consecutive losing trades of -50 pips each, our trader would lose his/her entire account, it is so quick!
-50pips * $10 = -$500
-$500 * 2 = -$1000
That's why you hear traders calling high leverage "leverage the killer".
Conclusion: one cannot trade with large virtual money having invested little real money. Highly leveraged account and high buying/selling capability doesn't mean one should be trading away with large trading lots.
In our case, having invested 1000 US dollars no matter at what leverage, a trader can only trade reasonably with a lot size of 10 000 units (or less) where each pip would cost $1 (or less). Hence, losing 20 pips would mean losing only $20 on one trade. We advice trading with pip cost smaller or equal to $1 for accounts smaller than $1000 dollars. (1 pip = $1 when trader open 1 lot of 10 000 units)
If we cannot use our buying/selling capability provided by leveraged account, how can we use leverage then? What difference would it make if we take lower or higher leverage?
We need higher leverage to have lower margin. But before we have have to learn what margin in Forex is.
Courtesy: http://www.forex-money-management.com
No comments:
Post a Comment