Basic Beans

The Sword of Leverage


Jul.17.2013

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It may take you to heaven, but most likely it will send you to hell first. We talked about how leverage can be higher in the forex market than other markets, which will give you the opportunity to multiply your profit. But we also mentioned leverage in the risk section. So let’s get it straight once and for all.Leverage is a double-edged sword. When you start trading in a real account, you usually start with investing a small amount of money. Some brokers even let you open accounts with just $50. Here is where you want to be careful, because trading a small account with a large leverage, if not done carefully and not followed by Forex Diva's trading methods, can contain risk of losing money equivalent to a Tory Burch party bag.

Leverage is a borrowed money provided by your broker which gives you the ability to control a large amount of money using none or very little of your own money. Should you fall for the fairytale story that just popped into your mind?

No!!

Let's say you have $1000 and you are trying to trade the Euro against the dollar. Here is what leverage can do to you and your money:

You first buy euro at the exchange rate EUR/USD= 1.25

When Leverage helps you make money trading forex

You give the markets some time to move.

 

Obviously you didn't do your homework and forgot to analyze all points of Invest Diva Diamond Analysis. Or maybe you just turned unlucky. Because the market moved against you and euro dropped a few pips. Now the exchange rate is EUR/USD = 1.20. If you choose to get out of the market now, this is what will happen:

 

You sell euro at the exchange rate EUR/USD= 1.20

 

When you end up losing money trading forex because of leverage

To sum it up, using leverage enables you to trade big with a small amount of money, but it can also result in a bigger loss… and it doesn’t end here!

Leverage has another damaging habit too.Using leverage, you will end up paying more transaction fee to your broker. It doesn't look big at the beginning. It's like buying one cigarette everyday. It's not that expensive and it wouldn't kill you immediately. But when you add them all together, the price can even be larger than that Tory Burch. It can take away your Tory, Gucci and Chanel all together.

 

Leverage amplifies your transaction fee that you have to pay to your broker.

 

You thought you can just borrow all this money from your broker and not get charged for it? Unfortunately brokers don't try to act like a perfect gentleman to sweep us off our feet. They are there to make money and feed their family, and charging for a high leverage is one method for them to make money. The higher your leverage, the higher your transaction cost will be. This cost for sure differs depending on the broker and therefore it is a very important factor to check before choosing a broker.

And it is also the reason why you really need to calculate your capital, and trade on the right account. Depending on the amount of money you want to invest, you need to pick the right forex account. We will explain more about this later, but for now, let's just mention that with most forex brokers the basic account are “standard account”, “mini account” and “micro account”.

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