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Forex Leverage Definition

Forex Leverage Definition, Introduction to Leverage, Forex trading leverage explained, Forex what is leverage?

Leverage is an important element of risk management in trading and is one of the basic blocks towards the long term success in forex. Most of you might have heard how leverage can be a double edged sword. While it can help you to maximize your profits with only a small capital, leverage can equally decimate your account if not managed properly. Most forex brokers today advertise the high leverage that they offer. Some even go as high as 1:1000 and sadly most new forex traders tend to fall for this. Without a proper understanding of leverage, randomly using a leverage ratio can be disastrous to your trading equity. Trading on leverage is also referred to as margin trading, or trading on margin.

What is leverage?

Leverage is defined as the use of exponentially increasing (read as inflating) your capital in order to make substantial profits from fluctuations in the markets. Or in other words, using a small amount on margin and leveraging it to trade higher amounts.

Leverage is usually denoted in ratios. Ex: 1:1, 1:100, 1:500 and so on. It can also be represented in the form of 100:1, 500:1 and so on, which means the same. This ratio is nothing but the amount you can leverage. A 1:1 leverage is the same as trading with no leverage at all, while 1:100 leverage is increasing your trading capital 100 times. So if you had a trading capital of $500 and used 1:100 leverage, you can practically trade up to $500,000.

Why use leverage if it is risky?

Leverage is used in order to trade higher contract sizes without having to put up the entire margin amount as collateral. A good way to understand leverage is to take the example of purchasing property. Assuming that you wanted to buy a house worth $500,000 and you didnít have that much of money upfront, you would approach a bank for a loan. Based on your monthly salary, the bank agrees to purchase the property for you while you continue paying monthly mortgages. This simple action is nothing but leverage. You basically leverage your monthly salary in order to purchase a property that would otherwise be beyond your reach.

Leverage, contrary to popular opinion can be your friend if used wisely and in fact is essential if you want to make any profits in the first place.

EXAMPLE:

If you had a trading capital of $10 000 and you choose a 1:1 leverage, the max you can trade is a one mini lot (0.1 lot) (Lot size definition) but that would leave you with no margin amount. On the contrary, if you used 1:100 leverage and want to trade one mini lot, you would simply use 1% of your capital, leaving you with enough capital to cover any risks to your trade.

Refer to the table below to see an example of trading with and without leverage.

Forex trading definition

Forex trading has a particular significance in relation to IG's platform. Here, we define forex trading in general investing and explain what it means to you when trading with IG.

Forex trading is the act of taking part in the forex market in order to speculate and attempt to make a profit. It can also be known as FX trading, foreign exchange or currencies trading.

Forex trading is always over-the-counter, or OTC. That means that it is decentralised, and doesnít take place via exchanges. Instead, forex trades are taken care of electronically by a global network of banks, and are available 24 hours.

Trading forex means buying one currency while simultaneously selling another currency. For this reason, forex quotes are always given in the form of currency pairs made up of the quote currency (the currency being sold) and the base currency (which is being bought). Major currency pairs include EUR/USD, USD/JPY and GBP/USD.

Currency movements are measured in pips (points), usually meaning a one-digit move in the fourth decimal place of a currency, or 0.0001. Currencies that have low values, like the Yen, are an exception to this where the second decimal represents a one-point move.

As currencies change in price, forex traders hope to make profit. The price movements in currencies are governed by a wide variety of factors, but tend to reflect the state of their countriesí economy.

With IG

We offer forex derivatives trading via spread betting and CFD trading. Both enable you to speculate on the forex market without FX trading via a broker or a bank. Our forex DMA allows you to get prices directly from major banks and currency providers, so you can trade over the counter with pricing from a number of sources.

Visit our forex trading section

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Spread bets and CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 79% of retail investor accounts lose money when trading spread bets and CFDs with this provider. You should consider whether you understand how spread bets and CFDs work, and whether you can afford to take the high risk of losing your money. Professional clients can lose more than they deposit. All trading involves risk.

The value of shares, ETFs and ETCs bought through a share dealing account, a stocks and shares ISA or a SIPP can fall as well as rise, which could mean getting back less than you originally put in. Past performance is no guarantee of future results.

CFD, share dealing and stocks and shares ISA accounts provided by IG Markets Ltd, spread betting provided by IG Index Ltd. IG is a trading name of IG Markets Ltd (a company registered in England and Wales under number 04008957) and IG Index Ltd (a company registered in England and Wales under number 01190902). Registered address at Cannon Bridge House, 25 Dowgate Hill, London EC4R 2YA. Both IG Markets Ltd (Register number 195355) and IG Index Ltd (Register number 114059) are authorised and regulated by the Financial Conduct Authority.

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