What Is Leverage and How to Use It

Your profits in the Forex market are based on the small movements in the price of a currency pair you own. You are basically betting that a particular currency will gain or lose value compared to another. If you bet right, you can make a lot of money very quickly. The challenge is that this change in price can be very small and you’ll need to have a lot of the currency under your control to profit from these tiny fluctuations. To help increase your profits, most Forex brokers will offer you leverage for your trades that can help to magnify the size of your position compared to your actual investment.

More Leverage The Longer You Trade with a Broker

The leverage a broker will provide depends on a few factors and most will increase the amount they offer you over time as you trade more often and they get to know you as a client. Standard leverage for most new accounts is 50:1 or 100:1. Larger or more mature accounts january be offered 200:1 or even 500:1 with some brokers. The risk for the broker is relatively minor because the fluctuation in currency pairs is normally small. The advantage to the brokers is that they make more on their commissions for the trade because their fee is based on the pips you purchase. By offering 100:1 leverege they increase their fee by 100 times so a trade that might have netted them 5 cents for each pip is now worth $5.00 a pip and their overall compensation is much higher.

There Is Danger in Using Too Much Leverage


There is a downside to using too much leverage since it not only increases your profits, it can also magnify your losses. Most Forex investors that trade with leverage will prevent larger losses by using a combination if limit and stop orders to minimize their downside. By setting an emergency exit point with one of these trading tools, you can be sure to use any leverage your Forex broker extends to you to only increase your earnings.

How to Use Leverage Responsibly


The real key to using leverage responsibly is in knowing what you are willing to lose with every investment you make. By defining this number for your trades in advance of investing you can create a strategy to use the leverage provided by your Forex broker to your advantage. For example, you january be willing to lose 3% on an investment and will need to place a stop loss at that level to make sure you exit when your limit is reached. On a $10,000 investment this would be at $300. The challenge is that if you place the stop loss at exactly $300 you might dip below that threshold just before the currency rebounds and miss the profit. Most experienced Forex traders will check the history of the currency they are trading to see if this type of pattern is common. If it is they will normally set the stop loss a little lower than their threshold to give it a chance to recover before exiting the position.

How Does the Forex Market Work?

The Forex market has been operating in one form or another for the past few decades and is based on speculation of the price between two currency values. The trading of these currencies takes place on the Foreign Exchange Market and allows investors the opportunity to purchase a currency pair that they hope changes in value over time. This difference in the price of one of the currencies against the other provides a profit for the investor holding the right currency pair.

Forex traders use charts and graphs of historical currency pricing to find their investments and will look for patterns of change in a country’s currency to make their decisions. A Forex trade is made through a pair of these currencies and the investor is hoping that the currency they hold will increase in value relative to the other. These changes in pricing can be very small so in the Forex Market it is very important to control a large number of these currency pairs to allow the investor to reap a sizable profit from their trades.

Understanding Leverage

Even though the Forex market is similar in many ways to other markets, there are few key differences that make it very attractive to investors. The first difference is a concept called leverage that allows a Forex trader to amplify their profits by controlling a larger group of currencies than their investment would provide. Most Forex brokers will offer a smaller 50:1 or 100:1 leverage to new accounts and increase the amount the longer you trade through them. This extended investing power enables a trader to take advantage of small movements in the price of a currency for their profits. The only concern with using leverage is that it can also increase your losses if not applied wisely. To prevent this, smart investors will place a stop order against their trade that allows them to exit a position before it becomes dangerous.

Longer Hours = Larger Opportunities

Another distinction is that the Forex market is open for trading around the clock five days a week, which allows you to trade whenever you have the time. Unlike other financial markets that only operate during local business hours; you can make your Forex investments in the evenings if you have other things to do during the day. This is an important advantage as it allows you to take advantage of changes to a currency’s value whenever they occur to generate the biggest profit possible. These extended hours of trading are one of the biggest reasons that Forex has gained popularity among casual investors since they can do it in their spare time to generate some extra income.

How to Trade In Forex

Trading on the Forex market is very similar to other markets except that you’re buying a currency pair instead of a single stock. Many investors do the research required themselves to identify a profitable currency pair and manually trade the position. Most Forex brokers will also supply the historical information needed on the major currencies to help you with the research. Another option is to use one of the many automated trading programs that have been developed for the Forex market. These programs are sophisticated enough to let you enter some basic information about the trades you want to make and then will actually make the trades for you when those market conditions are met. This can be a very easy way to profit from the Forex market and involves very little effort on the part of the investor.

The Brief History of the Forex Market

The Forex market can trace its roots back to about 1880 and has gone through a few major changes over the years to become the vibrant trading market it is today. The early days of currency were based on the value of gold and silver, which provided a consistent standard for trading between countries with a fairly stable value. Gold and silver coins could be used between countries for the purchase of goods and services. The price of these two rare metals was largely determined by the current available supply and changed with every discovery of new deposits. This made the coins fairly stable when trading within a country but their value could vary considerably between countries depending on how much gold the country held in reserve.

Establishing the Gold Standard

To try and stabilize the value of a country’s currency internationally, the “gold standard” was established. This gold standard was a system that set the value of a country’s currency against the same value of gold being held by the country in reserve. In the United States, this meant that every dollar in circulation was backed by the same value of gold being held in the treasury. If a country had less gold in reserve, or printed more money against the gold they had, their currency would be worth less when traded with another country. Paper money became very popular since anyone using it knew they could redeem the notes for the same value of gold at any bank.

The Bretton Woods Agreement

This all changed in 1944 with the Bretton Woods agreement that tied the international standard for currency to the U.S. dollar. This agreement was ratified by 44 different countries and was an attempt to establish a standard of comparison for various countries’ currencies. This standard locked the value of the dollar to one thirty fifth of an ounce of gold in value. Every other currency was then compared to this standard for international currency exchanges.

Birth of the Modern Forex Market


The Bretton woods agreement lasted for only a short time and in 1971 it was totally abandoned when the value of the dollar was once again allowed to float. The ending of this agreement paved the way for the Forex market we know today. In the current system, the value of a country’s currency is largely determined by the health of their economy, the stability of their government and a wide range of other economic factors. As any of this data changes, so will the value of their currency when compared to other countries.
In this modern currency exchange, a country’s currency value can fluctuate significantly over short periods of time and allows for a trader to profit from these changes. This difference in the value of two country’s currency is the basis of the modern Forex market. As a country’s currency appreciates in value you can profit if you pick the right currency pair. Because a countries currency is constantly changing in value in response to world events, the Forex market provides a great opportunity for investors to profit from this speculation.

Understanding Pips and Lots

Even though the Forex market shares many common characteristics with other investment options, it is very different in the mechanics used to make your trades. Two of these unique aspects are the concepts of Pips and Lots. Understanding what these terms mean and how to use them properly will allow you to maximize your earnings in the Forex market.
Pips and Lots are two terms that most new Forex investors january not completely understand and only know that they influence the way they trade and their earnings. Simply put, both of these terms are used as a unit of measure for trading that will help define how a broker makes your trades and what type of profit you can expect from your investment.

Pips Determine Your Profit

A pip is the smallest measure of movement in the value of a currency and determines your profit on a particular trade. This pip value can vary between brokers so it’s always a good idea to understand how broker you’re using to trade defines this value. Most larger brokers base the movement of a currency pair on a full pip but january also offer fractional pips as well to some of their clients. These pips represent a small increase or decrease in the value of a currency, which will vary depending on the pair you are trading. For example, if you are trading the USD/JPY currency pair, each pip of movement is equal to .01 cents in value. Other currency pairs like the GPB/USD use a .0001 value for defining the pip and the movement of the currency value will be need to be much larger to generate a similar profit.
For newer traders it is easier to calculate the success of their trading strategies based on their pip gains alone. This gives these traders a clear indication of how well a particular strategy is working for them over time without the work of converting the various pip values into real dollars.

Lots Define Your Minimum Investment

A lot is defined as the smallest group of currency pairs you can trade with a broker. This value varies with the currency pair you are trading as well as the broker you are using to make your trades. For example, many larger brokers set the lot size for trading USD-based pairs at 100,000. This means any time you trade against this currency, the smallest investment you can make from your account is 100K.

In recent years brokers have established more flexible accounts for smaller traders that have reduced lot requirements. These Mini and Micro accounts feature a smaller opening balance and equity than a full account but also allow a Forex trader to make smaller investments. With these newer accounts, most brokers now offer lot sizes of 10,000 units of the base currency for Mini accounts and 1,000 units of the base currency for Micro accounts. These smaller lot sizes enable new Forex investors to trade in the market without the worry of having to make the larger 100K investment. While these smaller accounts typically offer a lower leverage value than a full account, they allow investors to still reap the profits from a wise trade.

The Importance of Charts in Forex Trading

Even though Forex trading can be a very lucrative way to invest, understanding what currency pairs to invest in, and when, takes some research for maximum profits. While there are several different ways to predict the movement of the value of this currency, most investment decisions ultimately involve using certain Forex charts for comparison. What these various charts do for you is show you how a particular Forex pair has performed historically. These charts will typically record several prices for specified timeframe. Normally you’ll be able to see high price, low price as well as average price for a specific currency as compared to others. Once you have this information, it makes it easier to make trades on possible future movement of the stock as predicted by these charts.

Be Sure Of the Timeframe

The other consideration when comparing any Forex charts is the timeframe. If you are an active trader who wants to make your trades quickly, you’ll want a chart with smaller intervals of updates. You’ll want a chart that shows you the price of the currency you’re considering in one minute or five minute intervals for a given day. This will help you spot times of the day when trends occur and help you exploit this movement in price with your trades. If you are longer-term investor, you’ll want to find charts that show a currency pair’s performance at wider intervals and you might only need the daily price of the currency over a month’s time to make your trades. Be sure that whatever chart you use that the timeframe matches your investing window of interest.

Check with Your Broker


Finding these Forex charts is easy and many brokers will provide them to you as part of their service. Once you open an account you should be able to view a chart for any period of time and adjust the timeframe to reveal the details you need. In addition to the basic Forex charts, many brokers also provide detailed analysis to predict when a great time to invest in a currency pair might be to realize the biggest profit. This involves applying complex comparison algorithms to the charts to find specific periods of volatility that you can exploit with a timely investment. By understanding how the currency pair has performed in the past, you can take advantage of similar price swings in the future.

Use Charts to Automate Your Trades

Many of the popular automated Forex trading programs also use these Forex charts to suggest their trades. They use historical data combined with real-time quotes to identify a profitable investment opportunity. They can also predict when to exit a position to maximize the profits. When investors do this manually they january sell a pair too soon and leave profit in the trades that the automated system would have recovered. If you allow these programs to make the trades for you, they can find a good opportunity, enter the position and exit again providing you with a profit from the trade.