Forex brokers usually provide their customers with a leverage of up to 200:1. It is a mechanism that allows traders to trade on borrowed capital without investing tens of thousands of dollar to make profit. It is critical for a trader to know exactly how it works and how to use it.
There are three types of lot size, i.e. standard lot, mini lot and micro lot.
- Standard lot = 100,000 units of base currency
- Mini lot = 10,000 units of base currency
- Micro lot = 1,000 units of base currency
The profit/lose of every pip movement in price for each lot size are shown below.
The scenario can be explained with examples below. It is assumed that you have $5,000 as your capital initially.
100:1 Leverage
In this case, you open a standard lot trade with 100:1 leverage. Your required capital is $100,000/100=$1,000. Assume the exchange rate went in another direction than what you expected. Since every pip movement costs $10 thus it takes 100 pips to wipe out your capital completely. When you close your position after your capital is wiped out completely, you left with $5,000-$1,000=$4,000. That is 80% of your initial capital and you lose 20% of your capital in just one trade.
200:1 Leverage
In this case, you open a standard lot trade with 200:1 leverage. Your required capital is $100,000/200=$500. Assume the exchange rate went in another direction than what you expected. Since every pip movement costs $10 thus it takes 50 pips to wipe out your capital completely. When you close your position after your capital is wiped out completely, you left with $5,000-$500=$4,500. That is 90% of your initial capital and you lose 10% of your capital in just one trade.
Therefore, it requires wisdom when trade with leverage. Leverage can be useful and earns you great profit when used carefully. On the other hand, leverage can cost you all your capital when used recklessly. The higher the leverage the higher the risk is involved. It is recommended for a beginner to trade with lower leverage, i.e. smaller lot initially. A trader only move to higher leverage when he/she is equipped with proper skills and enough experience.
- Standard lot = $10
- Mini lot = $1
- Micro lot = $0.1
The scenario can be explained with examples below. It is assumed that you have $5,000 as your capital initially.
100:1 Leverage
In this case, you open a standard lot trade with 100:1 leverage. Your required capital is $100,000/100=$1,000. Assume the exchange rate went in another direction than what you expected. Since every pip movement costs $10 thus it takes 100 pips to wipe out your capital completely. When you close your position after your capital is wiped out completely, you left with $5,000-$1,000=$4,000. That is 80% of your initial capital and you lose 20% of your capital in just one trade.
200:1 Leverage
In this case, you open a standard lot trade with 200:1 leverage. Your required capital is $100,000/200=$500. Assume the exchange rate went in another direction than what you expected. Since every pip movement costs $10 thus it takes 50 pips to wipe out your capital completely. When you close your position after your capital is wiped out completely, you left with $5,000-$500=$4,500. That is 90% of your initial capital and you lose 10% of your capital in just one trade.
Therefore, it requires wisdom when trade with leverage. Leverage can be useful and earns you great profit when used carefully. On the other hand, leverage can cost you all your capital when used recklessly. The higher the leverage the higher the risk is involved. It is recommended for a beginner to trade with lower leverage, i.e. smaller lot initially. A trader only move to higher leverage when he/she is equipped with proper skills and enough experience.
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