Newbie Leverage Confusion

[Mr Newbie]

Hi I'd appreciate any help I can get on this one. I'm trying to understand using leverage in a forex mini account (i.e. 10,000 lot). If some wonderful person out there can answer the following questions I think I've got it, and it may help other newbies perusing this forum.

1)If I put a $25 trade on with 1:400 leverage, and it moves 25 pips in the right direction how much do I profit from this?
2)And if it goes in the wrong direction how much do I lose?

3)If I put a $100 trade on with 1:100 leverage, and it moves 25 pips in the right direction how much do I profit from this?
4)And if it goes in the wrong direction how much do I lose?

I guess my problem is that I've been told that with a 10,000 lot a pip equals a dollar, so from this I can see the implication as:

5) Using both the amounts and leverages above (25 x 400) and (100 x 100), I'd win the same amount,
6) but obviously with the $25 x 400 trade I'm making more of a profit in that it's 100% return on my investment (with a 25 pip move in the right direction),
7) however if the deal goes 26 pips in the wrong direction (ignoring the initial spread) my stake would be wiped out,
8) whereas with $100 x 100 my stake won't be wiped out until the trade goes 100 pips in the wrong direction.
9) Therefore, if the deal closes 100 pips up on a $100 x 100 deal I win the same amount $25 dollars, but I'm winning less because its only a 25% return on my money.
10) But its the smarter thing to do because I'm less likely to be wiped out

11) But, the advantage of high leverage is I could put 4 deals on with $100 and win 4 x $25 (above example), as opposed to being only able to win $25 from a $100 x 100 trade with my $100

Is the above (points 5 - 11) true in theory?

 

[Rhody Trader]

Your $ profit or loss on any trade is based on the size of your position, not the amount of leverage used. As you've observed, whether you are using 400:1 leverage or 100:1 leverage, if you are trading one mini lot the pip value is going to remain the same. The only difference is in the amount of margin you are required to post.

 

[Mr Newbie]

Hi John, cheers for that, I get what you're saying about the pip value, but does that mean that the rest of what I said is pretty much correct? And would you say that for a newbie with e.g. a $100 account, opening one trade of $100 at 1:100 is at the beginning a far safer strategy than opening four $25 trades at 1:400? Cheers

 

[Vaco]

Mr,

your looking at it the wrong way, just because that type of leverage is available doesn't mean you should be using it.

1.Your account size should be based on an amount of money that you can afford to lose

2.your lot size per trade shoud be based on your stop loss for that trade and ensuring that the loss would be no more then 5% of your account(when your very good) and 1% of your account to begin with.

If you use the 1% rule per trade you are unlikely to use more then 10% of your account as margin and in any case will not effect your trading.

Maxing out the leverage on your account be it 1:100 or 1:500 will only lead to you blowing the account.

 

[Rhody Trader]

Hi John, cheers for that, I get what you're saying about the pip value, but does that mean that the rest of what I said is pretty much correct? And would you say that for a newbie with e.g. a $100 account, opening one trade of $100 at 1:100 is at the beginning a far safer strategy than opening four $25 trades at 1:400? Cheers

Yes, your 5-11 is correct.

As for your comparisson of the 100:1 vs 400:1 positions, the later is by definition more risky. You're putting on 4 x as large a trade ($100 x 100 = $10,000 vs. $25 x 400 x 4 = $40,000).

I agree with Elefteros on your perspective. Think first about how much you are looking to risk on a trade. Then figure out how large a position you need to take to match that risk. If you do it the other way you're almost guaranteed to blow yourself up.

 

[Mr Newbie]

Cheers Mr Elefteros, I like the cut of your jib, and thank you,

I agree with you on point 1 - account size should be limited to money that I can afford to lose - I'm not that much of a crazy fool.

If I go with your second point, I'd have to start trading with a considerably larger deposit though. I would have to open an account with a minimum deposit of $10,000 if I was to open 1% trades at a 1:100 leverage(100 x100), and $2500 if I was to place 1% trade at 1:400 leverage (400 x 25)(which is nastily high leverage for a newbie). These calculations are based on a mini account (10,000 lot) with 'someone like' etoro.

Correct me if I'm wrong!

P.s. I'm not some kind of crazy mixed up kid who thinks that trading is some kind of toy without consequences - which is why I'm asking about leverage, so, what would your leverage policy be for a newbie? It seems to me that due to the lot sizes on offer which you have to buy into, you don't really have a choice other than to use leverage. I wish I could start trading without leverage, as I intend to learn about the market before parting with any 'real' cash, unfortunately demo accounts are not good, e.g. you can't carry a bet over to the next trading day - which put a barrier in the way of learning.

 

[Mr Newbie]

Thanks again John,

Of course you are right about starting with the cash you've got and working from there, forgive me if I gave the wrong impression. If you read my above post to Mr Elefteros I don't want to get burned but am actually trying to figure out how to start with with a small deposit, and 'stay alive' long enough to learn the 'trade'. I don't want to make any profit initially as I realise that chasing profit whilst being the name of the game is also probably what burns most newbies.

Cheers again

 

[Vaco]

1% risk refers to the size of the loss on any given trade so lets say you have a reasanable size account of $1000 you have a set risk of 20 pips a trade your maximum risk per trade at 1% is $10

if you were tradin gbpusd 1 lot = $10 a pip which would only alow you a stop loss of 1 pip so you would trade 0.05 lots in order for your loss to come in at 1%.

After trading your stratagy for a month you can increase to 2% risk if you are in profit and then to 3% but 3% should be the maximum.

Always ask yourself how you would react if you had 10 loses in a row, at 1% risk your only down 10% but at 5% risk you have cut your account in half!!

Would you still have the confidence to place the next trade?

 

[Mr Newbie]

Yes, your 5-11 is correct.

As for your comparisson of the 100:1 vs 400:1 positions, the later is by definition more risky. You're putting on 4 x as large a trade ($100 x 100 = $10,000 vs. $25 x 400 x 4 = $40,000).

I agree with Elefteros on your perspective. Think first about how much you are looking to risk on a trade. Then figure out how large a position you need to take to match that risk. If you do it the other way you're almost guaranteed to blow yourself up.

Hi again John, I get what you are saying about the size of the trade total 40k vs 10k, but with stop loss automatically set at 100% of trade, I wouldn't actually lose anymore than the original $100 in the case of either trade would I? By the way I don't intend to do the above, I'm just trying to understand how it all works and how a strategy might develop before actually trading

 

[Mr Newbie]

Ok Mr Elefteros,

I think I've got you now, it's not the size of the stake that matters, but the stop loss you put on it? (what you refer to as risk). Thanks things are becoming a lot clearer now. I think the issue for a newbie is that its difficult to grasp the fact that its safer to put $100 or $1000 trade on, than a $25 trade - its all about the stop losses. Cheers - we'll meet again very soon no doubt - probably very soon if I've misunderstood this!

 

[Vaco]

Ok Mr Elefteros,

I think I've got you now, it's not the size of the stake that matters, but the stop loss you put on it? (what you refer to as risk). Thanks things are becoming a lot clearer now. I think the issue for a newbie is that its difficult to grasp the fact that its safer to put $100 or $1000 trade on, than a $25 trade - its all about the stop losses. Cheers - we'll meet again very soon no doubt - probably very soon if I've misunderstood this!

thats spot on. Your deposit(margin) becomes irrelevant if you manage your risk on each trade.

 

[Rhody Trader]

Hi again John, I get what you are saying about the size of the trade total 40k vs 10k, but with stop loss automatically set at 100% of trade, I wouldn't actually lose anymore than the original $100 in the case of either trade would I? By the way I don't intend to do the above, I'm just trying to understand how it all works and how a strategy might develop before actually trading

Where your broker sets your margin call level (usually at about 50% of your initial margin requirement) will decided what kind of "automatic stop loss" you'd have. In this example where you're maxing out your margin it's only going to be about half your account. If, however, you were using a high leverage ratio and a small % of your account for leverage you'd get closer to a 100% loss before the margin call.

 

[Mr Newbie]

Hi again John,

I'm so glad there's guys out there like you who can answer this stuff, as although I'm a newbie there's no way I'd put any real money down thinking I had even half an understanding of things based on the miniscule info provided from broker site tutorials who then try to sign you up. "so that's you set, just click here to sign up". I really pity anyone who signs up after just having read through the etoro tutorial - either that or I'm in awe at anyone who finds that to be enough to set them off on a successful trading mission. (I know Forex has only been around a few years, but I'm sure Phineas T.Barnum has got his paws in it) Anyway, to the point, automatic stop loss is not set at 100%? of the stake? Does this vary form broker to broker? And do you know why there is a difference in the auto stop loss between a highly leveraged stake, and a lower leveraged stake? Do the brokers want to keep people on board, so they ensure their whole account isn't wiped out in one fell swoop, or is there some other point that I'm missing?
P.s. and by the way, how is a margin call initiated? by email? Phone? software alarm?

Cheers

 

[apmf]

Hi I'd appreciate any help I can get on this one. I'm trying to understand using leverage in a forex mini account (i.e. 10,000 lot). If some wonderful person out there can answer the following questions I think I've got it, and it may help other newbies perusing this forum.

1)If I put a $25 trade on with 1:400 leverage, and it moves 25 pips in the right direction how much do I profit from this?
2)And if it goes in the wrong direction how much do I lose?

3)If I put a $100 trade on with 1:100 leverage, and it moves 25 pips in the right direction how much do I profit from this?
4)And if it goes in the wrong direction how much do I lose?

I guess my problem is that I've been told that with a 10,000 lot a pip equals a dollar, so from this I can see the implication as:

5) Using both the amounts and leverages above (25 x 400) and (100 x 100), I'd win the same amount,
6) but obviously with the $25 x 400 trade I'm making more of a profit in that it's 100% return on my investment (with a 25 pip move in the right direction),
7) however if the deal goes 26 pips in the wrong direction (ignoring the initial spread) my stake would be wiped out,
8) whereas with $100 x 100 my stake won't be wiped out until the trade goes 100 pips in the wrong direction.
9) Therefore, if the deal closes 100 pips up on a $100 x 100 deal I win the same amount $25 dollars, but I'm winning less because its only a 25% return on my money.
10) But its the smarter thing to do because I'm less likely to be wiped out

11) But, the advantage of high leverage is I could put 4 deals on with $100 and win 4 x $25 (above example), as opposed to being only able to win $25 from a $100 x 100 trade with my $100

Is the above (points 5 - 11) true in theory?

I think your basics are not really clear IMO. Plz go through this thread specially the post-19, worth reading the whole thread. Help for Newbies. What can you learn on Forex Factory? - Page 2 - Forex Factory
Cheers!

 

[Mr Newbie]

I think your basics are not really clear IMO. Plz go through this thread specially the post-19, worth reading the whole thread. Help for Newbies. What can you learn on Forex Factory? - Page 2 - Forex Factory
Cheers!

Thanks very much apmf, will do just that

 

[Mr Newbie]

Thanks very much apmf, will do just that

Hi again apmf, how do I get to 'this thread'? - can't find post numbers (19)

 

[Rhody Trader]

I know Forex has only been around a few years.....

Forex trading has been around for decades, basically since Nixon took the US off the gold standard.

Anyway, to the point, automatic stop loss is not set at 100%? of the stake? Does this vary form broker to broker?

The actual margin call point can vary a little bit from broker to broker, but for the most part it will be pretty close to 50% of the initial margin requirement.

And do you know why there is a difference in the auto stop loss between a highly leveraged stake, and a lower leveraged stake?

Simple math. If you have put 100% of your account into a position and your broker uses the 50% margin call level, you would be called when your account was down 50%. If, however, only 10% of your account was used for margin, then the 50% cut off would be at 5% of your initial account value, meaning you'd be down 95%. Remember, the margin call is based on your initial margin, not the value of your account or your leverage ratio (though the permissible leverage will obviously determine your initial margin).

Do the brokers want to keep people on board, so they ensure their whole account isn't wiped out in one fell swoop, or is there some other point that I'm missing?

Margin call protects the broker (and to a wider degree the system) from a trader taking an overly large loss and not making good on it.

P.s. and by the way, how is a margin call initiated? by email? Phone? software alarm?

Most brokers just close your positions automatically, but that varies by broker.

 

[apmf]

Hi again apmf, how do I get to 'this thread'? - can't find post numbers (19)

Strange! You can search in Forex Factory for the thread ''help for newbies'' started by PeterFM, then once the thread is open , then look for the link for page2 (at the bottom)and then the post-19.

 

[Anita V]

This thread is great. I was hoping to clarify on these concepts myself. Thanks!