How to trade with leverage
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This page takes you through a step-by-step guide to making your first leveraged trade. If you aren’t sure exactly what that means just yet, then it might be a good idea to start with our leverage definition, then come back here and continue reading this investing guide.
Compare the best leverage trading platforms
In order to use leverage you need to find a high leverage trading platform that offers many leverage options. The platforms below all do, and you can sign up to any of them in a few moments by following the links in the table.
How to trade with leverage – a step-by-step guide
A leveraged trade is not all that different from a regular trade, but there are a few differences that you need to be aware of. Here is a quick guide to take you through the process.
- Sign up for a broker and create an account. Choose a broker from the list above, or use our reviews to compare all your options in more detail. Then you need to set up an account, which is usually a simple process but will require you to submit some contact details and a form of photo ID.
- Make a deposit. Some brokers have a minimum deposit amount, and you may be required to keep some extra money in your account as proof-of-funds in case any of your trades run into trouble. It’s a good idea at this point to decide how much you’re willing to risk, to avoid reacting emotionally and spending more money later on.
- Decide on a trading strategy. Most traders have a set of guidelines that influence how they play the market. It’s often based on a combination of technical and fundamental analysis – i.e. the study of individual price charts, as well as a deeper look at financial performance and the wider economy. Create a strategy so that you know when to buy and sell.
- Choose how you want to trade. Leverage is most common in the currency (forex) markets, but you trade things like stocks, indices, and – occasionally – cryptocurrencies as well. You also have to choose a form of trading where you don’t ever own the underlying asset – such as CFDs or spread betting – to be able to use leverage.
- Open a position. Once you’ve chosen what to trade, then you need to enter both your margin amount – the value of the deposit you’re going to put down immediately – and the leverage that you want to use. For example, you might put down a £10 deposit with 10x leverage, which would allow you to buy £100 worth of whatever asset you choose.
- Set limit orders. Stop-losses and limit orders are automatic trades that you can set in advance, which execute as soon as the asset’s price reaches a certain level. It is an extremely good idea to use these when you trade with leverage because it minimises the risk of losing a lot of money from extreme market moves.
What is leverage?
Leverage is a form of trading that allows you to gain exposure to a financial asset by paying less than the full amount for it. With leverage you put down a fraction of the total trade value as a deposit and borrow the rest from your broker. This is known as the ‘margin’.
What is margin?
Margin is the amount of money that you need to deposit into your account to make a leveraged trade. Where leverage is like a loan, margin is like the collateral you need to put up to obtain the loan. It’s always expressed as a percentage of the full amount of your trade.
If you were buying shares in Apple, without leverage, then you simply pay however much the shares cost. If the share price is $200 and you want to buy 10 shares, then you have to provide the full $2,000. When you trade with leverage, you only need to put up the margin, which might be 10% of the total trade value (each broker has different requirements).
In this example, let’s assume the margin requirement from your broker is 10% and you want to buy ten shares in Apple, for a total trade value of $2000.
Margin = margin requirement x total trade value
10% x $2000
Margin = $200
Rather than paying $2,000 for 10 shares in Apple, you only have to pay $200. If the price goes up to $210 per share, then your 10 shares are now worth $2100. If you sell them then you have made a $100 profit on just a $200 outlay. However, margin requirements can change at any time, and if the price of the asset falls, you can have your position liquidated – automatically closed – and lose all your money. Leveraged trades are much more risky than unleveraged trades.
Key factors to consider
It’s a good idea to take time to learn about leverage before you start to use it. It can be dangerous if you don’t understand what you’re doing as your losses can grow very quickly. Read through the factors below so that you understand what to look out for.
Whether to go long or short
One of the features of leveraged trading is that you can use it to predict price falls as well as rises. You can buy an asset (go long), but you can also sell it (go short). That means it opens up opportunities to make money from poorly performing markets rather than simply those which are doing well.
Just remember that it is much more risky to go short, especially when you use leverage. If you were to buy a stock, for example, the worst thing that can happen is that it falls to be worth nothing. If you sell one (predict that it’s going to fall in price), the price could, in theory, keep rising forever, which would become very expensive.
The margin
The margin is the deposit that you have to put up in order to use leverage. The smaller the margin, the more leverage (and therefore more risk) you’re taking on: if you supply 5% margin then that means you’re using 20:1 leverage, while 50% margin is only 2:1 leverage. The amount of margin required depends on the broker, the market you’re trading in, and how active a trader you are.
A margin call happens when your broker asks for you to supply more money – essentially add to your deposit and make the margin bigger – in order to keep the position open. This can happen if you trade particularly risky assets, or there is a dramatic price change, and so it’s a good idea to keep some money aside in case you need to add more.
Market volatility
When you trade with leverage, large price moves can cause even more extreme results than if you simply bought an asset for its full value. That’s because any change is multiplied many times over, so it can quickly become dangerous if the market moves against you in any significant way.
As a rule, the more stable a market is, the less risky it is to use leverage. For example, currency prices tend to fluctuate in very small, predictable ways, so it’s common (and often necessary) to trade forex with leverage in order to make a profit. It’s much more dangerous to use it to trade cryptocurrency, however, because those prices are liable to swing dramatically on a daily basis.
Risk of liquidation
Liquidation is what happens if your broker decides your trade has become too risky and simply closes it, so that you end up with nothing. Generally, this becomes more likely if the risk to the broker is worth more than the value of your initial deposit. It’s why you might be asked to provide more money as part of a margin call before the broker moves to liquidate you.
Why use leverage?
The benefits of using leverage are that it makes bigger profits possible and you can spread your money across more assets than you might otherwise be able to. Markets that offer leverage are also usually open 24 hours a day, so you aren’t restricted by normal trading hours.
In certain markets, most notably forex, leverage is a crucial tool because price changes are so small. Currency price changes are measured in hundredths of a cent, so it would take a very long time to make money without using leverage to magnify the size of each trade.
However, it’s something that can be dangerous for beginners to use in any other market. It’s best left to experienced traders who use it, again, as part of a strategy to make lots of small trades, rather than a series of big, open-ended bets.
Still undecided?
To help you understand leverage and decide whether or not to use it, here is a quick summary of its pros and cons.
Pros
- You can use leverage to free up money to spend on more investments
- It can help you profit from tiny price changes, like in the forex market
- It’s possible to make money when the market is falling as well as rising
- Leveraged trading is not restricted by normal trading hours
Cons
Where can I learn more?
Here at Invezz there is plenty more information that can help you become a better trader. Use our stock and forex investing hubs to find out what you can put your money into, or take one of these courses to get to know the basics of how each market works:
Stock Markets 101
Long-term Stock Investing
Short-term Stock Trading
More investing & trading guides
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