The concept of margin is crucial in forex trading. In simple terms, margin is the amount of money a trader needs to put forward to open a leveraged forex position. Think of margin as a collateral, a signal that lets your broker know you can afford to maintain that position. Let's see how it works in detail.
- Margin is a deposit you are required to make to open/maintain a leveraged position in forex
- Margin is determined as a percentage of the full value of the position
- Margin requirements in forex can be as low as 0.25% and higher than 10%
- Margin requirements differ from broker to broker
How does margin work?
Forex is typically traded on margin. This means that you borrow money from your broker to be able to open a much larger position than the size of your actual capital. The ratio of the amount used in this transaction to the required deposit is called leverage and the trade you open using this money is called a leveraged position.
When you open a leveraged position, your broker will require you to keep a deposit in your account for that position, which is usually just a fraction of the actual size of your trade. This small deposit is called margin. This will be set aside by your broker to cover potential losses resulting from that particular trade. Once you close the position, the margin will be released by your broker.
Margin is determined as a percentage of the full value of the trading position and the required margin (or margin requirement) differs from broker to broker. The required margin will determine the maximum amount of leverage your forex broker will provide to you, so this is an important piece of information you need to have when you select your broker. Our brokerage analysts regularly update this list of the best forex brokers in the world, compiled by testing their services with real money.
Margin rates vary depending on the broker, the traded currency pair or the residency of the trader. In forex, margin rates start from as low as 0.25% and can go into double-digit territory (10% or more).
Here's an example to see how this works in practice.
Let's say you you have $10,000 in your account and you want to open a position of 1 standard lot (100,000 currency units) of USDJPY. Your broker sets the margin requirement at 1%. This means that you will need to set aside $1,000 on your account (as collateral ) to open that trade. That $1,000 will be unavailable to you for as long as the position is open. The broker will lend you the missing capital to open the position.
Once you close the trade, the $1,000 collateral is given back to you - increased with the profit you made on the trade or decreased with the loss you made on that particular trade.
Calculating required margin
Here's another example that illustrates how the amount of required margin is calculated.
Let's say you open a long EUR/USD position of 1 mini lot (which equals 10,000 currency units). In this trade you will be buying EUR10,000.
If your broker sets a margin rate of 1% for this trade, the margin requirement will be EUR100 (EUR10,000 x 0.01).
The formula is: actual size of your trade x margin rate
How to calculate margin in forex?
To calculate the required margin of your trade, you need to know the margin rate applied by your broker, which will be expressed in percentage. Once you have that margin rate, use the following formula:
Required margin = Trade size x margin rate
What is free margin?
Free margin is the part of your capital that is not used as a deposit for currently opened positions. In other words, this is your own money that is available for trading/opening new positions. It is also called usable margin.
What is a margin call in forex?
A margin call will happen when when your margin level (equity/margin) decreases to a particular level. The exact level depends on the broker, but usually it happens at 50%. Once you reach this level, the broker will notify you to deposit more money into your account or it will automatically close these positions to minimize risk for both parties.
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