CRITICAL WARNING
Leverage is the #1 reason retail traders lose money. It amplifies both gains AND losses. A 100:1 leverage means a 1% adverse move wipes out your entire investment. Read this entire lesson before using any leverage.
What is Margin?
Margin is the amount of money required to open and maintain a leveraged position. Think of it as a security deposit or collateral that your broker holds while you have an open trade.
Types of Margin
Required Margin (Initial Margin): The amount needed to open a position
Used Margin: Total margin currently tied up in open positions
Free Margin: Available funds = Equity - Used Margin
Margin Level: (Equity / Used Margin) × 100%
Simple Margin Example
- Account Balance: $10,000
- Trade Size: $100,000 (1 standard lot EUR/USD)
- Leverage: 100:1
- Required Margin: $100,000 ÷ 100 = $1,000
- Free Margin: $10,000 - $1,000 = $9,000
You control $100,000 with only $1,000 locked as margin.
What is Leverage?
Leverage allows you to control a large position with a small amount of capital. It's expressed as a ratio (e.g., 50:1, 100:1, 500:1).
| Leverage Ratio | Required Margin | Control with $1,000 | Risk Level |
|---|---|---|---|
| 10:1 | 10% | $10,000 | Low |
| 50:1 | 2% | $50,000 | Moderate |
| 100:1 | 1% | $100,000 | High |
| 200:1 | 0.5% | $200,000 | Very High |
| 500:1 | 0.2% | $500,000 | Extreme |
The Leverage Trap
Just because your broker offers 500:1 leverage doesn't mean you should use it. Professional traders typically use 10:1 or less. High leverage is designed to attract gamblers, not create successful traders.
How Margin and Leverage Work Together
Leverage Impact on P&L
Scenario: EUR/USD moves from 1.2000 to 1.2100 (+100 pips)
Without Leverage (1:1):
- Investment: $10,000
- Profit: $100 (1% gain)
With 10:1 Leverage:
- Investment: $10,000 controls $100,000
- Profit: $1,000 (10% gain on your capital)
With 100:1 Leverage:
- Investment: $10,000 controls $1,000,000
- Profit: $10,000 (100% gain - doubled account!)
But if price moves AGAINST you by 100 pips:
- 1:1 leverage: -$100 loss (1%)
- 10:1 leverage: -$1,000 loss (10%)
- 100:1 leverage: -$10,000 loss (account wiped out)
Understanding Margin Calls and Stop-Outs
When your losses reduce your equity below a certain level, your broker will issue a margin call or automatically close your positions.
Margin Call Process
Margin Level Formula: (Equity ÷ Used Margin) × 100%
Margin Call: Typically triggered at 100% margin level (warning)
Stop-Out: Typically at 50% margin level (positions closed automatically)
Margin Call Example
- Account Balance: $10,000
- Open Position: 1 lot EUR/USD (requires $1,000 margin at 100:1)
- Used Margin: $1,000
- Initial Margin Level: ($10,000 / $1,000) × 100% = 1,000%
Trade moves against you by 300 pips ($3,000 loss):
- New Equity: $10,000 - $3,000 = $7,000
- Margin Level: ($7,000 / $1,000) × 100% = 700%
- Status: Still healthy
Trade moves 900 pips against you ($9,000 loss):
- New Equity: $10,000 - $9,000 = $1,000
- Margin Level: ($1,000 / $1,000) × 100% = 100%
- Status: MARGIN CALL! No more free margin to open new trades
Trade moves 950 pips against you ($9,500 loss):
- New Equity: $10,000 - $9,500 = $500
- Margin Level: ($500 / $1,000) × 100% = 50%
- Status: STOP-OUT! Broker automatically closes your position
- Remaining Balance: $500 (lost 95% of account)
Margin Calculations
Required Margin Formula
Margin Calculation
Required Margin = (Trade Size / Leverage) × Exchange Rate
For pairs where account currency is the base currency, exchange rate = 1
Margin Calculator
Risks of High Leverage
Why High Leverage Destroys Accounts
- Magnifies Losses: 100:1 leverage means 1% adverse move = 100% loss
- Reduces Error Margin: No room for mistakes or market noise
- Emotional Pressure: Large positions create panic and bad decisions
- Margin Calls: Forced liquidation at worst possible times
- Overnight Risk: Gaps can blow past your stop-loss
- Overtrading: Easy to open too many positions
Real-World Leverage Disaster
Trader Profile:
- Account: $5,000
- Leverage: 500:1
- Position: 5 standard lots EUR/USD ($500,000 exposure)
- Required Margin: $1,000
What Happened:
EUR/USD dropped 80 pips during a news event. Loss: $4,000. Account reduced to $1,000 in seconds. The remaining $1,000 is locked as margin. Margin level at 100%. Position automatically closed. Final balance: $1,000. Lost 80% in one trade.
With 10:1 leverage instead: Same trade would have required $50,000 margin - impossible with $5,000 account. This limitation would have prevented the disaster.
Safe Leverage Guidelines
Professional Leverage Rules
- Beginners: Use 10:1 or less - Learn without excessive risk
- Intermediate: 20:1 to 30:1 maximum - More flexibility, still safe
- Advanced: 50:1 maximum - Only with proven track record
- Professionals: Typically use 10:1 despite access to higher
Effective vs. Maximum Leverage
What matters isn't the leverage your broker offers, but the leverage you actually use (effective leverage).
Effective Leverage Formula
Effective Leverage = Total Position Size / Account Equity
Controlling Effective Leverage
Account Balance: $10,000
Broker's Maximum Leverage: 500:1 (ignore this!)
Scenario 1 - Safe:
- Open position: 0.1 lots ($10,000)
- Effective leverage: $10,000 / $10,000 = 1:1
- Result: Very safe, small moves won't hurt
Scenario 2 - Moderate:
- Open position: 0.5 lots ($50,000)
- Effective leverage: $50,000 / $10,000 = 5:1
- Result: Reasonable risk for experienced traders
Scenario 3 - Dangerous:
- Open position: 5 lots ($500,000)
- Effective leverage: $500,000 / $10,000 = 50:1
- Result: Account at serious risk
Margin Management Rules
- Never use more than 50% of available margin - Keeps you away from margin calls
- Monitor margin level constantly - Should stay above 200%
- Reduce positions if margin level drops below 300% - Before broker forces you
- Don't add to losing positions to avoid margin call - Recipe for disaster
- Use stop-losses always - Protects from complete wipeout
- Keep emergency cash reserve - Don't trade your entire account balance
The Truth About Leverage
Leverage is not inherently bad - it's a tool. Like a chainsaw, it's powerful and useful in skilled hands, but dangerous for beginners. The problem isn't leverage itself, but overleveraging. Control your position sizes, use proper stop-losses, and leverage becomes a useful tool rather than a death sentence.