Leverage and Margin Call
Leverage
When we open an account with a broker we will have to consider the leverage that we will use since depending on the leverage that we use we will be risking more or less.
A good form to explain the leverage is like when we bought a house, giving an enlistment to buy this house and paying the rest by means of a mortgage.
Then in Forex it is the same, in this case the bank will be the broker, or moneylender, who will face the amount of 100,000 dollars (1 lot), you will have to deposit 1,000 dollars to the broker.
However, each broker it has different types from leverage, so your you will be able to choose that leverage to use.
By general, broker needs a minimum size of account, this is known as initial margin or margin account. When you have made the deposit to the broker will allow you to operate.
However, each broker it can have several types of lots or a minimum specific lot to operate by open position.
In the case of wanting to operate 100,000, that is to say ,1 lot, you are going to need to have in account 1,000 dollars. The leverage usually is expressed of following form 100:1.
Therefore, whichever greater it is your account, greater will be the amount with which you can operate. In case it has 7,000 dollars that would allow you to operate up to 700,000 dollars.
As we already said the leverage is expressed of following form 100:1. However, some brokers represent in form of leverage and others in form of percentage of margin.
The relation between both terms is the following:
Leverage = 100 / Percentage of Margin
Percentage of Margin = 100 / Leverage
So that we will be able to see leverages of 50:1, 400:1, 100:1 or 200:1.
Margin Call
Before we start to explain what is the Margin Call, we have explicarte other concepts.
At the time you open your account in a broker you will see that you have the following sections in your desk.
Balance: It will be the capital with which you will have opened the account.
Equity: It will be the result sum/reduce the balance more/less the result of the operations that are open. That will be the value that would have the account in case that all the positions are closed that we have opened in that moment.
Usable Margin: It will be the result of the subtraction between the Equity and the Used Margin. The resulting amount will be the capital that is not affected by the purchases and they will allow us to cover the margins that we need to hold the positions that we have open.
Used Margin:opening a position, the amount whereupon you open that position will be the margin that you have used.
Required Margin:It will be the amount that broker establishes to open a position.
Margin call usually happens when the Equity falls below the Usable Margin, then broker closed all the positions that you have open or some of the positions. In this way broker avoids that your account has a negative balance.
Margin call can happen by several reasons, not use Stop loss, excessive Stop Loss, or Buys/Sell very dangerous, and in case that the market is in a period of the high volatileness or by unexpected movements of the market due to some news that has released.
We are going to suppose that you open an account with 8,000 dollars and you buy a lot of USD/CAD of 4,000 dollars. The margin that you will be able to use (usable margin) is the money that you must available to open new positions or to be able to hold the loss of those positions that you have open. The usable margin when you opened the account was 8,000 dollars but because you open a position of 4,000 dollars, the usable margin is 4,000 dollars. Your used margin will be of 4,000 dollars.
In case that the Equity is equal or inferior to your usable margin, your account will enter in Margin Call.
Let us suppose that openings an account with 10,000 dollars, and purchases a lot of 3,000 dollars of the USD/CAD. The usable margin is the money that you must available to open new positions, or to hold the losses that you have. So that you opened an acount with 10,000 dollars, and the usable margin at the time of opening the account was of 10,000 dollars. Because you bought 3,000 dollars, your usable margin will be of 7,000 dollars, and your used margin will be of 3.000. If your usable margin is equal or below 7,000 dollars, your account will enter in Margin Call.
In case your Equity falls below your usable margin, then you entered in Margin Call.
So you will need to understand what it is the Equity, the usable margin, and the used margin.
Before you enter Margin Call you must deposit in your account but money or you will enter in Margin Call, your Equity will fall below your usable margin, because you will be losing. In case you have not deposited, broker closed the positions that you have open or a position, and in this way the broker will limit his risk as much as your risk.
In order to avoid that it happens a Margin Call you will have to control your risk, using a minimum percentage of your account that we recommended that it can be 1%, 2% either 3%, so that thus you controlled better the losses than you can have, and in addition you will have a usable margin more ample.