Leverage using Calls, Not Margin Calls

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Stop-Out Level vs. Margin Call

When choosing a Forex broker and planning to open your first account, you will probably hear a lot about level, margin call, and leverage. While many brokers will only talk about margin calls, others seem to delineate a clear border between margin calls and levels. What is a level, and what is the difference between a level and a margin call?

To start with, let’s quickly review the definition of margin. For many people, trading on margin is one of the biggest motives to trade Forex. With Forex, you do not actually need $100,000 to trade $100,000 worth of currency. You might need, for example, only $1,000 if your broker offers you leverage of 1:100. This means that for every dollar you put down in your deposit, you are allowed to trade $100 worth of currency. This is referred to as trading on margin. It is incredibly powerful and can make you rich overnight — or destroy you overnight, which is considerably more likely!

You can rephrase the 1:100 leverage above as 1% margin. This means that the broker requires you to present 1% of the trade as a minimum security margin. Now when you join a Forex broker, you will read about their margin call and procedures, and you will usually see some percentages, which refer to your equity. For example, a broker may list a margin call at 20% and a level at 10%. What this translates to is that if during the course of a trade, your account equity drops to 20% of the margin that you are required to maintain in your account, you will get a margin call. In the case of this kind of broker, this will usually be nothing more than a warning and a strongly worded suggestion that you close some or all of your trades, or deposit more money to meet the minimum margin requirement. If you do these things and all is well, you are safe for now (but really should close out your trades as soon as possible and go back to demo testing). If on the other hand you do not, and you stay in the trades, and they go further against you, your equity may drop to 10% of what is required, at which point you will hit the level. At this point, your trades will be closed automatically by your broker starting at the ones that are failing most badly. If necessary, all of your trades will be shut down in order to meet the minimum margin requirement.

Another way of doing things is a margin call at 100%. That means once your equity drops below 100% of the minimum requirement to trade, you will not only get a margin call, but your trades will be closed out just like at a level. This combined system contains no warning — it simply closes your trades.

How do you avoid this horrible thing happening to you? To avoid getting a margin call and/or hitting a level, you should only trade what you can afford. Manage your money in a rational manner; only use leverage if it makes sense for you to do so. Just because it is there does not mean you have to use it! A lot of profitable traders — most actually — only trade about 2.5–5% of their own equity. There is nothing wrong with doing it this way — you are more likely to make it in the long run. And if you do hit a level or get a margin call? Go back to demo testing until you can trade profitably again, and then get back to live trading when you are truly ready.

Some Real Life Examples

Example 1. You have an account with a broker that has 50% margin call level and 20% level. Your balance is $10,000, and you open a trading position with $1,000 margin. If the loss on the position reaches $9,500, your account equity becomes $10,000 — $9,500 = $500, which is 50% of your used margin, the broker will issue a margin call warning. When your loss on the position reaches $9,800, and your account equity becomes $10,000 — $9,800 = $200, which is 20% of the used margin, the level will be triggered, and the broker will automatically close your losing position.

Example 2. A broker has 200%/100% margin call and levels. Your balance with it is $1,500. You open a trading position with $200 margin. If the loss on this position gets to $1,100, your account equity becomes $1,500 — $1,100 = $400, which is 200% of your used margin, then a margin call will be issued. When your loss on that position reaches at least $1,300, and your account equity becomes $1,500 — $1,300 = $200, which is 100% of the used margin, your position will be closed automatically by a .

Example 3. You have a $5,000 account at a broker with 150%/100% margin call and stop-out levels. You open a trade using $1,000 margin. You would get a margin call when your loss on that trade reaches $3,500 (so your equity is $1,500 or 150% of your $1,000 used margin). You would get stopped out when your loss reaches $4,000 (so your equity is $1,000 or 100% of the $1,000 used margin). However, if you opened a bigger trade, using your whole account size ($5,000) as margin, you would get a margin call immediately, and since stop-out is 100%, you will not be even able to open that position, or otherwise, it would get closed out instantly, since you have to maintain at least $5,000 equity in your account.

Three Important Notes

  1. The amount of used margin for position maintenance does not depend on the stop-out level. It only depends on the trade size, leverage, and the broker’s margin requirements. For normal Forex trades, it is usually just the trade size divided by the leverage. For example, 0.1 lot on EUR/USD at 1.1000 with 1:100 leverage will require margin.
  2. The margin call and stop-out mechanisms do not completely prevent the possibility of an account balance becoming negative due to the losses on open trading positions. In rare cases, it is possible for such a situation (when account balance goes below zero) to appear in Forex. A notable example is January 15, 2020, Swiss franc gap that resulted in EUR/CHF positions closing hundreds pips below the stop-losses and stop-outs failing miserably. However, normally, brokers only seek redemption on very large negative balances as it is quite difficult for them to make the account holder compensate the loss.
  3. It is important to remember that margin call and stop-out levels are defined in relation to margin and equity, not to loss and equity. So, it is impossible to tell the exact loss level when any of those levels will trigger without knowing both the amount of used margin and the equity of your account.

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What is a margin call?

The most terrible of traders’ nightmares is a margin call. In this article, we are going to explain the term and give the tips how to avoid the margin call.

So what is a margin call? Well, it is a broker’s demand to you as a client to bring margin deposits up to the initial margin level in order to keep holding current positions open. The margin call most frequently happens with a move to close your positions.

Technically, it is important to keep the value of the account higher than the maintenance margin level, otherwise your positions will simply be closed and this will result in a loss for you. Sometimes giving up on your trade and facing a loss is the right thing to do, but if your vision is different – you can avoid a margin call by adding more funds to your trading account.

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Unfortunately, many brokers can issue the margin call without informing you about their intentions. Thus, they automatically close the respective trade(s).

Why does a Margin Call matter?

What is specific about margin accounts is that they enable traders to make investments with their broker’s money. In other words, margin accounts use leverage and can consequently magnify gains. However, losses are magnified as well. As a consequence, if you do not meet a margin requirement, your broker has the full right to close your open trades, starting from the one with the highest loss, in order to increase your account equity until you are above the necessary level of the maintenance margin.

A broker does not even need to consult you before closing the positions. Usually, the right of closing your trades without waiting for you to meet the margin call is stated in a service agreement.

As a result, you are highly recommended to read your broker’s service agreement very attentively before investing your money. In this agreement you will see all of the terms and conditions of the margin account. Such information often entails how interest is calculated, how the assets you buy serve as collateral for the leverage provided and more.

Therefore, it is imperative to consider the margin call before trading on margin account.

How to calculate the Margin Call

Well, the margin call is the difference between your current equity balance in the trading account and how much equity you require to maintain your open positions.

Even though you can make the calculation process by yourself, you can significantly economize time by making good use of the margin call calculator. It determines the hypothetical rate at which a possible margin call may occur.

Let’s explain how to use the typical margin call calculator:

  • Select your account type, as different accounts come with different sets of instruments and other parameters;
  • Define the leverage of your account, this depends on your account settings and your current balance;
  • Pick your account currency;
  • Choose the currency pair of a particular trade;
  • Enter the volume of your trade(s);
  • Define the action, i.e. the type of trade, buy or sell;
  • Type in the opening and closing prices;
  • Press Calculate.

You will be shown the necessary margin in order to keep your position open. Once your margin drops below this level, the position will be closed. As the figures strongly depend on the settings of your account and the data from a particular trade, we always recommend to use our Trader’s Calculator before you open an order.

Although the margin call calculator is a nice tool, it is intended only for rough estimates and cannot predict the margin call with sniper accuracy. Rates used by the tool may be delayed by about 5 minutes.

Another important detail is that most calculators presume that no other trades are open in your trading account. However, Alpari tries to supply you with the best tools available, this is why our calculator supports multiple positions.

Do not forget that rates used in calculators are usually the average between the ‘bid’ and ‘ask’ prices for any given trade.

What can lead to a Margin Call and how to cover it?

If we combine all the causes of the margin call together into a list, the main reason that leads to the margin call is the following: the use of excessive leverage with insufficient capital whilst holding onto losing trades for too long when they should have been cut.

You can choose between 2 ways to cover the margin call:

  • You can deposit more money into the account to increase your equity; or
  • You can sell enough assets from your portfolio so that your equity balance meets the margin requirement.

What are the best ways to avoid the Margin Call?

To tell the truth, proficient traders almost never experience margin calls. They manage their trades well enough and apply different steps. So let’s take a closer look at them.

  • First of all, monitor your account on daily basis. In addition, do not forget to use stop loss orders to reduce your risk exposure. Effective money management increases your chances to avoid the margin call.
  • You might also consider that one of the best ways to avoid margin calls is not to use leverage. As alternative, you can keep your use of margin at the low end of your borrowing limit. Hence you can limit the leverage to no more than 10-20%. Thereby, you will have some leverage to improve your performance in a risky market, yet enough to avoid triggering a margin call.
  • Another step you can take is to review your portfolio composition. If you diversify your portfolio across a broad range of shares or managed funds, you can potentially mitigate the risk of receiving a margin call in times of high volatility.
  • It is advisable to set your personal trigger. This means that you should keep additional liquid resources at the ready if you need to add either money or securities to your margin account.

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Reading time: 9 minutes

This article will address several questions pertaining to Margin within Forex trading, such as: What is Margin? What is free margin in Forex?’ and What is Margin level in Forex? Every broker has differing margin requirements and offers different things to traders, so it’s good to understand how this works first, before you choose a broker and begin trading with a margin.

What Does Margin Mean?

Margin is one of the most important concepts of Forex trading. However, a lot of people don’t understand its significance, or simply misunderstand the term. A Forex margin is basically a good faith deposit that is needed to maintain open positions. A margin is not a fee or a transaction cost, but instead, a portion of your account equity set aside and assigned as a margin deposit.

Trading on a margin can have varying consequences. It can influence your trading experience both positively and negatively, with both profits and losses potentially being seriously augmented. Your broker takes your margin deposit and then pools it with someone else’s margin Forex deposits. Brokers do this in order to be able to place trades within the whole interbank network.

A margin is often expressed as a percentage of the full amount of the chosen position. For instance, most Forex margin requirements are estimated to be around: 2%, 1%, 0.5%, 0.25%. Based on the margin required by your FX broker, you can calculate the maximum leverage you can wield in your trading account.

You can see how margin, or the level of leverage you use, can affect your potential profits and losses in our Forex leverage infographic below.

(Note that the leverage shown in Trades 2 and 3 is available for Professional clients only. A Professional client is a client who possesses the experience, knowledge and expertise to make their own investment decisions and properly assess the risks that these incur. In order to be considered to be Professional client, the client must comply with MiFID ll 2020/65/EU Annex ll requirements.)

What is a Free Margin in Forex?

Free margin in Forex is the amount of money that is not involved in any trade. You can use it to take more positions, however, that isn’t all – as the free margin is the difference between equity and margin. If your open positions make you money, the more they achieve profit, the greater the equity you will have, so you will have more free margin as a result. There may be a situation when you have some open positions and also some pending orders simultaneously.

The market then wants to trigger one of your pending orders but you may not have enough Forex free margin in your account. That pending order will either not be triggered or will be cancelled automatically. This can cause some traders to think that their broker failed to carry out their orders. Of course in this instance, this just isn’t true. It’s simply because the trader didn’t have enough free margin in their trading account.

What is a Forex Margin Level?

In order to understand Forex trading better, one should know all they can about margins. Forex margin level is another important concept that you need to understand. The Forex margin level is the percentage value based on the amount of accessible usable margin versus used margin. In other words, it is the ratio of equity to margin, and is calculated in the following way:

  • Margin level = (equity/used margin) x 100.

Brokers use margin levels in an attempt to detect whether FX traders can take any new positions or not. Different brokers have varying limits for the margin level, but most will set this limit at 100%. This limit is called a margin call level. Technically, a 100% margin call level means that when your account margin level reaches 100%, you can still close your positions, but you cannot take any new positions.

As expected, an 100% margin call levels occur when your account equity is equal to the margin. This usually happens when you have losing positions and the market is swiftly and constantly going against you. When your account equity equals the margin, you will not be capable of taking any new positions.

So now that we’ve established what margin level is, what is margin in Forex? We’ll use an example to answer this question:

    Imagine that you have $10,000 on your account account, and you have a losing position with a margin evaluated at $1,000. If your position goes against you, and it goes to a $9,000 loss, the equity will be $1,000 (i.e $10,000 – $9,000), which equals the margin. Thus, the margin level will be 100%. Again, if the margin level reaches the rate of 100%, you can’t take any new positions, unless the market suddenly turns around and your equity level turns out to be greater than the margin.

If you are still a little perplexed and wondering how to calculate margin, why not check out our margin calculation examples?

Let’s presume that the market keeps on going against you. In this case, the broker will simply have no choice but to shut down all your losing positions. This limit is referred to as a stop out level. For example, when the stop out level is established at 5% by a broker, the trading platform will start closing your losing positions automatically if your margin level reaches 5%. It is important to note that it starts closing from the biggest losing position.

Often, closing one losing position will take the margin level Forex higher than 5%, as it will release the margin of that position, so the total used margin will decrease and consequently the margin level will increase. The system often takes the margin level higher than 5%, by closing the biggest position first. If your other losing positions continue losing and the margin level reaches 5% once more, the system will just close another losing position.

The reason why brokers close positions when the margin level reaches the stop out level is because they cannot permit traders to lose more money than they have deposited into their trading account. The market could potentially keep going against you forever, and the broker cannot afford to pay for this sustained loss.

What is a Margin Call in Forex?

A margin call is perhaps one of the biggest nightmares professional Forex traders can have. This happens when your broker informs you that your margin deposits have simply fallen below the required minimum level, owing to the fact that the open position has moved against you.

Trading on margin can be a profitable Forex strategy, but it is important to understand all the possible risks. You should make sure you know how your margin account operates, and be sure to read the margin agreement between you and your selected broker. If there is anything you are unclear about in your agreement, ask questions and make sure everything is clear.

There is one unpleasant fact for you to take into consideration about the margin call Forex. You might not even receive the margin call before your positions are liquidated. If the money in your account falls under the margin requirements, your broker will close some or all positions, as we have specified earlier in this article. This can actually help prevent your account from falling into a negative balance.

How can you avoid this unanticipated surprise? Margin calls can be effectively avoided by carefully monitoring your account balance on a regular basis, and by using stop-loss orders on every position to minimise the risk. Another smart action to consider is to implement risk management within your trading. By managing your the potential risks effectively, you will be more aware of them, and you should also be able to anticipate them and potentially avoid them altogether.

Margins are a hotly debated topic. Some traders argue that too much margin is very dangerous, however it all depends on trading style and the amount of trading experience one has. If you are going to trade on a margin account, it is important that you know what your broker’s policies are on margin accounts, and that you fully understand and are comfortable with the risks involved. Be careful to avoid a Forex margin call.

Additionally, most brokers require a higher margin during the weekends. In fact, this might take the form of a 1% margin during the week and if you want to hold the position over the weekend, it may rise to 2% or higher.

Conclusion

As you may now come to understand, FX margins are one of the key aspects of Forex trading that must not be overlooked, as they can potentially lead to unpleasant outcomes. In order to avoid them, you should understand the theory concerning margins, margin levels and margin calls, and apply your trading experience to create a viable Forex strategy. Indeed a well developed approach will undoubtedly lead you to trading success in the end.

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This material does not contain and should not be construed as containing investment advice, investment recommendations, an offer of or solicitation for any transactions in financial instruments. Please note that such trading analysis is not a reliable indicator for any current or future performance, as circumstances may change over time. Before making any investment decisions, you should seek advice from independent financial advisors to ensure you understand the risks.

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