How does Leverage affect Forex Trading?

logomark Anthony Gallagher calendar Last Updated: November 2021 timer 4 min read
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Before you go out and select one of the High Leverage Forex Brokers from our trusted list, you should be aware of how leverage affects forex trading.

Imagine opening a standard trade of $100,000 with just $1,000. That is exactly what 100:1 leverage allows. Following the simple formula of Margin-Based Leverage = Total Value of Transaction / Margin Required you can work out your exact leverage and margin requirement.

It seems easy, and it can be. Before you do that though we will take a look here at the impact leverage can have on your risk, trading, profits, and more so you get the whole picture.

Let’s get started.

Table of contents

How leverage affects forex trading

As we have talked about in detail in our article what is leverage in forex, leverage effectively allows you to control a higher position with less money in your balance. Leverage and access to high leverage within forex trading is generally common. This makes the forex market popular with those who want to trade on leverage.

The value of your leverage will depend on a number of factors, but the lot size is very important. This refers to the minimum quantity of an asset that can be traded and will depend on your broker. A standard lot is 100,000 units of currency, let’s use $100,000 as an example.

The pip is the smallest amount which your quote currency can move. On the US Dollar and many others this is $0.0001 in cash value. The pip value is the effect that this pip change has on your overall amount. Using leverage, your pip value will be increased depending on the leverage amount.

Basically, using leverage greatly amplifies the outcome of your trades whether that means increasing profits, or losses.

Leverage in forex: Margin trading

If you want to trade on leverage you will first need a minimum deposit amount for the broker that you will hold in your account. This is known as the margin.

An example is if you want to trade a standard lot of $100,000 and your broker requires a $1,000 margin, then this translates to an implied leverage of 100:1. The calculation can be done as show below:

Margin-Based Leverage = Total Value of Transaction / Margin Required

Margin Calls

So, you have margin which is the amount required to be locked in to open a particular position. You also have equity. This is the amount of remaining money in your account that you can use to open other positions.

If a trade goes against you, your broker may make a margin call. This is where the remaining equity in your account is not enough to cover the margin requirement for a currently open position. This is a worst case scenario where you typically have two options:

You can deposit more money to maintain the margin on the open positions you have, or you can close the positions. In any case, if you fail to maintain the margin it is highly likely the broker will force you to close the position.

The power of leverage

Leverage can be very powerful as a tool for traders. It can substantially increase your buying power and have your trading at much higher levels. As illustrated above, with 100:1 leverage you can open a $100,000 position with only $1,000 in your account.

This makes using high leverage very tempting to many traders however it pays to remember that risk works both ways and the higher the leverage, the greater your risk. The best suggestion is to use a lower leverage that you can still afford to lose.

trade using leverage

Leverage risks on forex trading

As mentioned, using leverage can greatly increase your pip value at higher ratios. On our quoted example of $1,000 at 100:1 leverage, the pip value will be $10. This is a very high amount for the smallest movement in the currency and even the most stable major forex pair like the EUR/USD can move 100 pips or more in a session.

Using 10:1 leverage here would cut the pip value to $1 and significantly lower your risk to avoid draining your balance if the position moves against you.

How to reduce risks

Reducing risk always comes down to having a disciplined and well-organized risk management strategy in place. This can include the use of stop-losses and other order types from your broker as well as the use of a lower leverage amount.

Ultimately, it will be up to you to know what is an affordable level of risk and apply a risk management strategy to match up with your individual situation.

How does leverage affect forex trading FAQs

Does leverage affect profit in forex?

Leverage has the ability to amplify your profits where you can make profits from just the smallest currency movements. It is a double-edged sword though that will amplify your losses in the same way if the trade is going against you.

What is the best leverage to use in forex?

The best leverage will depend on your individual situation, goals,and strategy. Typically though, lower leverage is recommended for the longer you plan to keep a trade open. You can also encounter restrictions to your maximum available leverage based on your country of residence such as the 30:1 that applies within the EU and UK.

Does leverage affect lot size?

The size of the lot remains the same, but your access as a retail trader to that lot changes. With leverage you suddenly have the ability to open bigger positions. The pip value is also greatly influenced at higher leverage as we showed above.


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About the Author

Anthony Gallagher

Broker Expert

Anthony is a financial journalist and business advisor with several years’ experience writing for some of the most well-known sites in the Forex world.

A trader turned industry writer, he is currently based in Shanghai with a finger on the pulse of Asia’s biggest markets.

He is a keen golfer with a very high handicap so when not helping you find the best broker for your needs, you may find him on the course or just as likely following any number of sports from the comfort of his sofa.


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