Explain FOREX Leverage

by Contributing Writer

Overview

Leveraging the foreign exchange

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The financial leverage model is a precision trading instrument. The foreign currency exchange offers a highly profitable opportunity by leveraging exchange rate fluctuations between two countries' currency through a forex broker's margin account.
Leverage Ratio Standard

Forex trades are based on a standard of 100,000 units of currency. A $50,000 deposit would have a margin of one percent or 50:1. The broker's capitalization (cash reserves) and investor's deposit amount will determine the margin (borrowed money) leverage ratio.

How the Leverage Works

Borrowing money with 20:1 margin leverage would require the investor to provide one unit of currency to every 20 units of currency provided by the brokerage house.
Forex Leverage Risk

An advantage to Forex leverage trading is controlling risk. Currency pair values vary about 1 percent per intraday trading compared to equities and commodities intraday price volatility and a lesser leverage percentage.
Loss and Margin Call

Comparative to potential profits, the leveraged margin can amplify losses. This happens when the underlying currency directs the currency pair rate against the investor's trade. If the investor's account balance goes into the negative, the broker will execute a margin call.
Use a Risk-To-Reward Strategy

A sensible risk-to-reward strategy will avoid a margin call by placing a stop-loss order that is automatically executed at a pre-determined target price to protect the investor's account balance.

Overview