Leveraged trades can be a great way of building up a bankroll, but they are also very risky since you can end up in debt. When I say never use a dangerously large leverage, I mean that you shouldn’t risk money that you can’t afford to lose. Hope for the best but plan for the worst. What would happen to you if you ended up owing your broker 100% of the money you borrowed for this trade? If the answer is that it would impact your life in a horrible way, then you are using a dangerously large leverage.
Example:
- Sarah is borrowing $10,000 for a forex trade. Sarah has a savings account with almost $25,000 in it and if she ends up owing her forex broker $10,000 she plans to repay the debt right away using money from her savings account. It wouldn’t wipe out her savings account – she would still have money left for emergencies. Also, Sarah is 28 years old, her skills are highly sought after on the job market, and she doesn’t have any children or other people who depend on her financially. Her ability to quickly replenish her savings account is excellent. She can afford to do fairly risky trades hoping for a high yield.
- Christian is borrowing $2,000 for a forex trade. This is much less than Sarah’s leverage, but while Sarah wasn’t using a dangerously large leverage, Christian is. That’s because Christian’s can’t afford to lose $2,000. Christian is unemployed and doesn’t have more than $200 in his savings account. If he ends up owing the forex broker $2,000 it will wreck his personal finances.
About leveraged trading
In this context, leverage is an investment strategy utilizing borrowed money. There are quite a few brokers that will extend credit to their clients in the form of margin accounts or similar. Certain securities, including future contracts and options, can also be utilized for leveraged trading. Even getting a traditional mortgage loan from a bank to invest in real estate is a type of leveraged investment.
Forex trading platforms online are famous for allowing heavily leveraged trades. It is not uncommon to be offered 1:50 leverage, which means that if you have $1,000 in your account you are given a $50,000 credit to use for trades.