- What exactly is leverage in forex?
- How should you decide how much leverage is right for you?
- Important things you should know about leverage
- How much leverage do you trade with?
What exactly is leverage in forex?
To put it in very simple terms, leverage is a type of loan that your broker gives you whenever you trade through them.
Leverage will amplify the capital that you have in your account and with it, you can trade positions bigger than what your capital would have allowed you.
So say that you have $10,000 in your account and consider that your broker gives you a leverage of 1:10, then what would this mean?
It would mean that you will now be able to trade with $10,000 times 10 which is $100,000. Isn’t that cool?
But, this picture that leverage painted in mind isn’t as rosy as you are thinking it to be and it has both pros and cons that you should be aware of.
Make sure that you read everything that I’m going to talk about in this blog post and you’ll be well equipped to deal with leverages whenever you trade.
How should you decide how much leverage is right for you?
Leverage is a sharp double-edged sword and if you don’t do it right, then you are going to get yourself hurt, and that too really bad. That’s why you should understand leverage properly.
I have seen many traders trade with insanely high leverage provided to them by their brokers and it goes up to 1:400, but eventually, they do things wrong and they lose everything.
Even when you see such high leverages, it doesn’t mean that you should straight away select the highest possible leverage, you need to have a plan for it, just like you’d have a plan to tackle everything else in trading.
So what I would do, and what I have taught my students, is to determine the leverage that you’ll be using, according to your trading style, whether you are swing trading, day trading, or even if you’re just scalping.
There are brokers that give leverage as low as 1:2 and even as high as 1:400 and you can take leverage anything between this.
So to make things simpler for you here’s a thumb rule, if you are swing trading, then stick with leverage of 1:10, if you are day trading, then go for 1:50 leverage, and finally, if you are a scalper, then you can go on the higher side and get leverage of 1:100.
The reason for this is that when you are swing trading then as it is you are going to take trades in which your stop loss will be wide and if you have a large position size with this, then in case the trade goes against you, then you’ll lose big.
When you come on to day trading, your stop loss will comparatively be a bit tighter, hence you can use more leverage to trade.
Finally, scalpers are going to take trades in which the stop loss will be very tight and that’s why they can trade with high leverages and still be good.
Important things you should know about leverage
The first important thing you should know is that leverage can be dangerous at times and I’ll tell you how.
Say that you have a capital of $1,000 and you have taken leverage of 1:100, so you can now take positions up to $100,000.
If you max out and take the highest position size then even a small move against you will wipe out your $1,000 capital and you’ll be left with nothing.
This now brings me to the second important point I want to tell you. If your broker is giving you the option to get massive leverage then it doesn’t mean that you have to take and go all in.
I’m going to tell you something now that very less traders know. You should treat leverage as a means of protecting your capital rather than aiming for higher profit.
Let’s consider that example again where you have $1,000 and have taken leverage of 1:100. With this, you will need to risk just $10 from your capital to take a position that is worth a total of $1,000.
From here even if the price goes completely against you and hits your stop loss kicking you out of the trade, you are just going to lose $10 which is just 1% of your capital.
So do you understand what leverage does here? It allows you to risk less of your capital and allows you to take a higher position with that much money and this is the right way to look at leverage.
How much leverage do you trade with?
So tell me, are you one of those traders that go all in with high leverage? Or are you one of those smart traders that use leverage smartly to protect their capital?
Be honest with your answer and it would be great to see how many of you are of the second type.
By the way, don’t forget to share this blog post with others and let them also learn how to use leverage the right way and make the most out of it.
Also, if you have any questions, doubts, or anything, then feel free to reach out to me through the comments section below and I’ll get back to you as soon as I can.