What Is Margin In Forex Trading? How To Calculate Margin?
Forex margin is required for traders and investors who want to invest more money in the Forex trading. There is a little misconception about Forex margin. If you are planning to deposit money to your broker, then it is mandatory to have a clear knowledge.
Traders can control their trading position with the help of two important tools in forex trading that Margin and Leverage.
Stop worrying about the term margin. You will get a clear view of what the margin is, how it works, and also the different terms of a margin account.
Let’s start with the definition of Margin.
What Is Margin In Forex
A margin is a deposited amount to open a new position with a broker. It is a loan extended by the broker that allows you to leverage the funds. Moreover, a broker will use margin to maintain your position.
On the other hand, you can consider margin as a “good faith deposit”.
In order to use leverage, Forex brokers require a minimum deposit, which is called the margin.
Margin trading is not designed for any specific investors types. Any form of traders or investors, who are looking for additional leverage in investment can use margin.
Suppose you want to buy $10,000 EUR/USD. Generally, you have to deposit the full amount.
But, in forex trading, if you choose margin trading, then you can only deposit 1/10th of the total amount of $10,000. So, as a margin, the amount you only need to put is $1000. The leverage ratio will depend on the broker.
How To Calculate Margin In Forex
A margin is usually expressed as a percentage of the full amount of the position. It will help you to borrow money from your broker. For example, most forex broker require 2%, 1%, .5%, or .25% margin.
If your broker requires 2% margin, you have a leverage of 50:1 (50/2=0.02 or 2%)
A margin increases traders buying power. Traders will set margin in order to use the leverage.
Moreover, you can use the margin calculator to calculate margin automatically. You will find online calculators, which are totally free for traders.
What is Margin Account
In the forex market, there is a term Equity that considered as an account margin.
A margin account allows you to trade with debt. Traders can invest a lot of money in trading via a margin account.
Suppose, you have $100 to invest, but you are wishing to invest $200. The broker will give you an extra $100 to invest. That means you are issuing debt from the broker.
A margin account is a brokerage account. You can make a profit by using a margin account, but there is also a downside of using a margin account.
Traders can lose all of their money when the margin call happens. For security, it is important to read the margin agreement when setting up a margin account with any brokers.
There are some advantages to using a margin account. These are:
- You can increase your buying power
- Can enjoy a high investment returns
- Portfolio diversity
What Is Required Margin
To open a position in the curreny market, you need an amount of money. This amount is called Required margin. The term is almost the same as the margin.
To find out the required margin, you have to use a formula. The formula is:
Margin Requirement = Current Price × Units Traded × Margin
For example, if you want to place a trade of $10000 with a 2% margin with 50:1 leverage. So, the required margin is $200.
Therefore, in a simple sentence, required margin express the percentage of the margin.
What Is Used Margin
This term is all about the money locked by the brokers. Suppose your deposited amount is $1000 to open a trade of $100,000 EUR/USD. Brokers locked your $1000 until the deal closed.
You cannot withdraw this amount without the permission of the broker.
Similarly, you can withdraw your amount after closing the position if the trade is going in the right way or positive way.
What Is Usable Margin
The usable margin is used in forex when a trader opens a new position. A usable margin is always equal to Equity, but less than used margin. You can open a new position through this amount.
The formula for calculating the usable margin is:
Equity-Used Margin = Usable Margin
As we all know that the margin is an amount which will help you to apply for the leverage. Let’s have a look at the relationship between margin and leverage.
The Relation Between Margin And Leverage
When a trader borrowed money from the broker to invest a large amount in the Forex market, is known as margin. We already discussed about Margin and its types at the beginning of this article.
By investing a small amount of money you can deal with a big amount of profit. But sometimes traders lose their money when the market position moves against them. Small investors often invest money by maintaining this way.
The ratio between the funds borrowed by you, and the margin that you deposit as insurance is called leverage.
For example, if your margin is 5% then the leverage is 20:1. For example, you decided to buy a mobile phone worth $50,000. You went a bank and bank asked for 10% down payment. The leverage is 10:1.
After a few days, the mobile phone is worth $55,000 and you decided to sell the phone. Here you are able to get $5,000 in profits if you get the leverage from a bank.
What Is Margin Level In Forex Trading
Different brokers have a different level of margin. Forex margin level is the percentage of your used margin and the equity of your margin account.
Brokers set the margin level depending on how much leverage they are offering. Most of the brokers set the limit as 100%.
The equation of margin level is:
Margin level = (Equity/used margin) X100
Suppose, the equity amount is $8000 in your margin account and the used amount is $2000. The margin level of your account is 400%
When your account reaches 100% margin level, then it will consider as margin call level.
Traders can close the position that already opened, but cannot open a new trade position. When the equity of your account is equal to the margin level, then the margin call occurred.
The market is volatile. So, it can go against you at any time. The brokers are not ready to afford your loss.
Free margin term is important to discuss because when you have so many open positions and also some pending position, then this term will help you to take a decision on how much you need to open a new position.
What Is Free Margin In Forex
The free margin is an amount which is not involved in any trade. You can use that money to open a new position.
The free margin is the difference between equity and the margin.
If you open a new position and your trade is not going against you, then you will be able to get more profit.
More profit will increase your equity amount and also you have free money to invest or open a new position.
Suppose, you have a few pending orders in your account and the market wants to open a position of your pending order. But, there is no free margin in your account.
So, the order will not open or the order will close automatically.
To calculate the free margin, the trader follows an equation.
Free margin = Equity – Margin
If you don’t open any position in the trading market, then your equity and margin amount will be the same.
It will be helpful for you to understand precisely if I give you an example.
Suppose, you have $600 in your margin account and your opened position amount is $300. So, the rest of $300 is your Free Margin.
The free margin is always available upon on your trading opening position.
Margin Call Definition
For traders, it is necessary to know what is a margin call to protect your money from loss.
A margin call is the amount of money that cannot cover your possible loss. When the equity is greater than the used margin, you will not get any Margin call.
Here, brokers set a limit of a margin call. When your Equity is lower than the used margin or equal, then you will get a margin call from brokers.
Suppose you are trading $10,000 and this is your Equity. You decided to invest $100, which is your used margin and your Usable margin is $9900.
Here, we are dealing with the Nano account so 1 lot is $100.
If you want to close out or sell the trade at the same buying price, then your used margin will go back to $0.00 where the usable margin is the same as the equity of $10,000.
Without closing your previous position of 1 lot if you want to buy another 79 lots, then the total lot size is 80. Here, the used amount will be $2000 and the Equity will remain the same but your used margins will be $8000.
This $8000 dollar is the calculation of 80 lots times at $100.
The amounts of usable margin will $2000. Once your equity drops below $8,000, you will have a Margin Call.
How Good The Margin Call Is
A margin call is bad when you don’t have enough to refund your money in your equity.
It is your responsibility to check equity from time to time to prevent a margin call. You need to monitor your account when you get time.
It is easy to monitor because the forex market runs 24 hours (5days a week) via bank network. You may not receive a margin call before your positions are liquidated.
If you want to deal with margin account then you need to know the policies of your brokers. You need to follow up your margin agreement before signing and also make a good relationship with a broker to prevent your margin call loss.
In conclusion, our recommendation is not to trust the Forex market. The market is volatile so price changes very frequently.
It is not necessary that you will win all the trades, so do not be overconfident. Because of being overconfident, you may lose a higher amount of money.
You need to take a decision to keep some factors in mind like market position, risk level etc. If you have any suggestion regarding this article, please comment down below.