Leverage is one of the things that makes investing in forex alluring and risky at the same time. It is truly one of those things in life that should be dealt with in moderation because excessive leverage has and will burn traders when they’re not disciplined. Consider leverage to be like a PG-13 movie. Not dangerous for all audiences, but certainly dangerous for some.

As we said, the concept of leverage is one of the more attractive aspects of trading forex. Look at it this way. If you day trade stocks in the U.S., you are required by law to deposit at least $25,000 into your brokerage account. That’s a tidy sum and you get out of the deal is four times leverage. Meaning your broker gives you $100,000 to trade with when you deposit $25,000.

When it comes to the leverage extended to traders, forex is king. Most forex brokers will give you 50 times leverage. Meaning if you open your account with just $5,000, your forex broker will give you $250,000 to trade with. Some brokers will even give their account holders 100 times leverage. That’s a powerful thing. Deposit just $50,000 and your forex broker is going to give you $500,000 to trade with. That’s a very powerful tool when you consider that a standard forex lot is worth $100,000 and every pip you make or lose is worth $10.

How Much Is Too Much?

As we said, leverage is one of those things that works best in moderation. Think about it this way, if you’re a new forex trader, do you really need $250,000 to trade with? Maybe, but probably not. And you certainly don’t need $500,000 to trade with. All that is is an invitation to incur unnecessary risk. But what about the brokers that extend more leverage, say 400 to 1. That means your $5,000 turns to $1 million to trade with. What new trader needs that much to trade with? Most seasoned traders don’t even need that much to make a decent amount of pips.

Too Much Risk

Forex trading can be extremely risk and while most forex brokers have features in their trading platforms that can prevent you from losing more than your initial investment, trading an amount like $500,000 or $1 million can be a risky play in the hands of any trader.

Let’s say you’ve deposited $5,000 in a new forex brokerage account that gives you 400 times leverage. You’ve got $1 million to trade with. You then go out and initiate a EUR/USD and purchase 10 lots, using your leverage to the fullest extent. A 10-pip move on lot makes or costs you $100, so on 10 lots you’d make or lose $1,000. This means that if your trade went against you 50 pips (you probably should’ve gotten out before the loss got that bad) your account would be completely wrecked on a single trade. That’s an extreme example, but it does illustrate the risks of abusing leverage.

Remember leverage is your ally until you mismanage it.

Author Bio: Retired Canadian Economist. My main activity since Winter 2006 is trading Forex. I’ve been trading currencies online with the help of EA’s (BTW, the best source for EAs is Forex Robots) and I currently manage trading accounts at two Forex brokers in the US and in UK respectively

Category: Finances
Keywords: Forex Robots, Day Trading, Forex, Forex Brokers, Finacial Advisors, Expert Advisors