Leverage

Leverage in trading is a financial mechanism that allows traders to control a larger position in the market using a smaller amount of their own capital. It is the use of borrowed funds to increase the potential return on investment.

How does it work?

What you deposit is a smaller part of the funds you can spend on trading. Your broker provides the rest.

For example, traders can open positions much larger than their account balance by using a specified leverage ratio (e.g., 10:1, 100:1). For instance, with 100:1 leverage, a trader can control $10,000 worth of assets with just $100 of their own capital.

To trade with leverage, traders must maintain margin. The margin is the amount of capital required to open and maintain a leveraged position, serving as a security for the broker.

While leverage can amplify profits, it also magnifies losses. A small adverse price movement can lead to significant losses, potentially exceeding the trader's initial investment. This is why risk management is critical in leveraged trading.

Given the risks, brokers often set maximum leverage limits to protect traders from excessive risk.