When you do research to find forex trading brokers it is important that you consider the leverage they are offering. You need to look at the amounts you can get and whether you can adjust the leverage used. It is also important that you know the dangers of leverage and how your capital amounts affect these risks.
The leverage offered by forex brokers has changed over the years with the introduction of regulations. In certain regulated countries, like the United States, the amount of leverage you can get is regulated by the CTFC. The regulations state that forex brokers located in the US are not allowed to offer more than 50:1 leverage. As all forex trading brokers have to register with the CTFC this is strictly implemented. However, brokers located in Australia where regulations are set by the ASIC are able to offer any leverage they want because this is not regulated.
Why Use Leverage
There are a number of reasons why forex brokers offer leverage. There are two that you should know about:
- The offering of leverage makes the forex market more attractive to more people. Traders no longer need to have large amounts of capital to trade with and make a profit. This opens the market to the average person who does not have thousands to spare.
- The second reason is related to the accessibility of the forex market. When more people use the market brokers are able to make more money. If a broker has a spread of 5 pips and charges 50 traders this they are making 250 pips of profit.
Risks of Leverage
Leverage has been regulated in certain countries because of the risks. Retail traders often use more leverage than is recommended because it is available and it could bring greater profits. However, the leverage can also cause greater losses that traders do not think about. Expert traders and professionals state that 20:1 leverage is more than enough for any trade. However, unregulated brokers offer up to 400:1 leverage which is considered extreme.
Capital and Leverage
One of the reasons why leverage is so dangerous for retail traders is related to the capital amounts of these traders. It is possible to open a retail trading account for as little as $1. However, in order to make a profit which makes trading worthwhile leverage will need to be used. When you have small capital the risks of leverage increase because you do not have a buffer for your account.
If you have a capital amount of $50 and can use 200:1 leverage you have an overall purchasing power of $10,000. However, to use this amount you need to deplete your trading account. This is against risk management which states that you should never risk more than 2% of your account on a trade.
Limiting Forex Trading Leverage Risks
The risks of leverage often scare new traders, but if you know how to limit the risks you can use leverage. The best way to limit the risks is to ensure that your leverage does not increase your risk per trade over 2% of your trading account. You also need to check that you can adjust the amount of leverage you use on each trade. Some brokers only allow you to use the maximum leverage on every trade. When you enter the forex trading market, you should assess your risk levels and ensure that you stick to your risk policies.
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