Forex Trading: How much leverage do I need?
If you are reading this article, chances are that you are looking into Forex trading and getting to know the basics. Learning the essentials is a wise step to making strategic trades and gaining the know-how of how to tip the odds in your favour.
Moving speedily along to definitions, leverage is using capital to invest in a currency, security, stock or other asset. Leverage allows a trader to borrow the specific amount of money required for a particular investment, where the borrowed money is known as capital. As Forex is a combination of the two terms, “foreign” and “currency”, Forex trading concerns currency and their respective exchange rates.
If you are wondering how a general definition of leverage differs from what is leverage in Forex, it is a broker who usually lends out the money. Forex trading presents a relatively high amount of leverage, since for starting margin requirement, an investor can subsequently amass and manage significantly large sums of money.
A comfortable amount of leverage
There is no single right answer to answer the question of how much leverage is ideal, since it depends on individual circumstances and preferences. As a general rule of thumb, Forex traders can feel free to select the amount of leverage that is in a comfortable range for them. It is wise to stay informed of the local legislation and regulations for foreign currency exchange for individual investors from government sites, such as official bulletins from the Office of Investor Education and Advocacy at the United States Securities and Exchange Commission.
If you are a newbie on the scene, prefer not to take risks, or use conservative trading as your go-to strategy, then you might feel comfortable going with a lower leverage with a ratio of 5:1 or 10:1. So talking in United States dollars, a 10:1 leverage ratio signifies that for every one dollar of capital, a trader can control ten times that amount in currency. In this case, ten times one dollar is equal to ten dollars, hence the ratio 10:1.
There are many helpful guides and tips on how you can improve your Forex strategy and know-how, such as how you can master your financial trading game and other online resources, videos and webinars and books.
What are the benefits and risks of leverage in Forex?
Leverage is very useful since it allows Forex traders to borrow capital from a broker so that they can trade larger amounts in a given currency. When an investor is able to trade large positions, then the leverage maximises the returns from gains in a particular currency pair.
What this means is that if you happen to benefit from the increase or decrease of a particular currency and it causes your return to increase, then leverage will make the increase even larger. On the flip side of the coin, if the movement of the currencies is unfavourable to your position and you lose money on it, then the leverage will also magnify your losses. In this respect, leverage can be seen as a double-edge sword that intensifies the situation at hand.