Margin Trading Explained

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Is margin trading right for your financial plan?

Traders are constantly looking for new ways to enhance their financial experience. There are tons of strategies and trading techniques that can help with that. One of them is margin trading. It is one of the most attractive methods for millions of investors worldwide.

It is used on the Forex, cryptocurrency, commodity, stock, index markets. Most online brokers provide the opportunity to implement this investment method for their clients. Basically, trading on margin is all about borrowing funds from the brokerage firm to increase the buying power for trades. However, all the traders who decide to execute the margin trading strategy should remember that it is a high-risk option. With the increased potential for profits, there is still the potential for losses.

Margin trading explained

Investors may come up with well-elaborated strategies, but sometimes they may require more funds than they have. In such cases, margin trading is an option. The broker can lend a certain amount of money, while traders are only required to make an initial investment. This initial deposit is, in fact, the margin that helps you to open a leveraged trade.

Making predictions on price movements with only initial margin allows boosting the value of trades. Once a prediction plays out, a trader will get good profits (risks of losing invested money is also a case once a prediction is wrong). However, it comes with an obligatory condition: investors must pay a percentage of the total value of a trade to the broker.

Margin trading sets many restrictions on investments. Traders can’t arrange payment plans, as well as they are required to follow the fixed terms of the margin deal. Usually, brokers can legally change some terms of your financial contract at any time.

Leveraged trading

Trading on margin involves creating leverage. It is the whole point of margin trading: the leverage concept implies that brokerage companies provide investors with the possibility to buy financial instruments using borrowed capital to increase profits. Depending on the brokerage firm and the size of the trading position, leverage can be 1:10, or 1:50, or 1:100, or 1:500, etc.

Margin trading with leverage works as follows: You are ready to make a $1000 deposit. However, you are willing to trade a $100,000 lot of the USD/EUR currency pair. Broker helps you to perform a trade by giving you 1:100 leverage, meaning you can deposit 1% of the lot ($1000). After that, you can open a position.

Trade on margin: basics

To start margin trading, an investor has to open a margin account. The brokerage firm sets the conditions for such accounts and decide which assets can be traded on margin, and what amount of money can be the margin loan.

Besides the fact that trades on margin are risky itself, the risks are even greater when you deal on markets with high volatility (for instance, on the crypto market), when the volume of trade is huge, and when you make long-term investments. Margin trading requires skills, knowledge, and practice. To master your trading techniques that involve margin, traders must understand the basics.

  • When opening an account, investors see the balance. It is a starting sum for trades that reflects the total amount of funds available for future deals.
  • To see the real-time calculation of profits and losses, traders have to pay attention to the equity indicator on their accounts.
  • Traders have to keep a required margin on the account. It is the amount of money needed for executing trades.
  • The used margin indicator shows the total number of all the required margin from all open trades.
  • To see how much money is available for trading, traders have to check a free margin indicator.
  • The maintenance level indicator reflects the total value of the trader’s funds on the trading account without the loan from the broker.

What if I fall below the maintenance margin?

A margin call happens. In such a way, your broker notifies clients to deposit more funds to their accounts to be able to proceed with trades. Or investors can sell their securities. If not done so, all open trades will be liquidated. It occurs because of a lack of margin on the trading account. In other words, the amount of money of the account falls below the broker’s required amount.

Boost your investment potential

Margin trading can be an attractive investment option. However, it brings up significant risks because of leverage. That is why it is only suitable for experienced traders. Traders can increase their buying power when their financial techniques are well-played, and when their trading strategies are seamless. And only one wrong prediction can draw significant losses.

To master margin trading, investors should have extensive knowledge. Find out more about online investments at ETFinance. We offer tons of learning materials about Forex, commodities, stocks, indices for traders to be prepared for the confident start on the financial markets. VODs, tutorials, courses, e-books are available for our client for free.

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Margin Trading

In the stock market, to trade on margin means to purchase or short stock on credit. When buying stock on margin, a customer can borrow up to 50% of the total cost from the brokerage firm. Margin customers are required to keep securities on deposit with their brokerage firms as collateral for their borrowings. Equity options and equity index options can now be purchased on margin, provided they have more than nine (9) months until expiration. The initial(maintenance) margin requirement is 75% of the cost(market value) of a listed, long term equity or equity index put or call option.

Margin Requirements for Option Writers

In options trading however, “margin” also refers to the cash or securities required to be deposited by an option writer with his brokerage firm as collateral for the writer’s obligation. See margin requirements.

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Margin Trading, Explained

This is where you make trades using money borrowed from someone else – or a brokerage.

While the potential rewards can be high, there are some sizeable risks that investors need to contend with too.

Let’s start with an example using dollars. Imagine you have $50. Margin trading is where you leverage $500 based on this sum of money in your pocket.

As you’d imagine, the principle in the cryptocurrency world is quite similar. Let’s say you want to buy Ethereum worth $1,000, but you’ve only got $500 available. Through margin trading, you’d be able to borrow an extra $500 – getting you up to the magic total.

If your $1,000 in Ethereum grew in value, to say $1,500, you’d be able to liquidate it and return the $500 to the lender, leaving you with a gross profit of $500.

Of course, the value of cryptocurrencies can go dramatically down as well as up. In a scenario where the price of Ethereum went down by 50 percent, your lender would be able to get their $500 first before you can access funds, potentially leaving you with nothing.

I’ve heard of long and short positions. What are they?

These two terms relate to whether a trader thinks a cryptocurrency is going to rise or fall in value.

“Going long” generally means that you believe the Bitcoin or Ethereum you’ve just purchased will rise in value over time – and through leveraging, this can amplify your gains (and amplify any losses you make.)

On the flipside, you might believe that one of these cryptocurrencies is about to experience a fall in value – and this is where a short position comes in handy. As an example, let’s imagine you think that Bitcoin, trading at $7,000, is going to drop in price. Here, you sell your Bitcoin for $7,000 – and then buy it back when it tumbles to $6,400. Once this transaction has been completed, this represents a gain of $600.

What are the most common risks with margin trading?

The fact that many cryptocurrencies are so volatile means margin trading is only recommended if you’ve done your homework and have experience.

Losing your own money when trading in crypto can be unpleasant enough without the borrowed funds of other investors coming into the equation.

The main risk to remember is that you have the potential to lose your whole initial investment through margin trading, especially if your focus has been on altcoins with a low volume and high volatility.

If one of your trades starts to lose money, your margin can be “called in.” Let’s say you are margin trading with a ratio of 2:1, where every dollar you’re investing is matched by someone else. Here, your position would be liquidated when the value falls by about 50 percent in order to preserve the lender’s funds.

It is possible to inject further cash to prevent this from happening, but this can cause substantial losses to pile up quickly. Sometimes, it’s about knowing when to cut your losses.

Are margin trades regulated?

They are regulated with uniformity on conventional stock exchanges – but the rules can vary between crypto platforms.

This may all be about to change. For example, as reported by Cointelegraph, Japan’s Virtual Currency Exchange Association (JVCEA) wants to limit the amount that margin traders can borrow – enforcing a cap that stands at four times the amount of their investment.

Explaining their plan to a Chinese media outlet, the JVCEA said: “It aims to prevent investors from suffering a lot of losses due to sudden price fluctuation of the virtual currency.”

Regulatory compliance has become something of a priority after the Coincheck exchange was a victim of a massive hack back in January, with 523 million NEM coins worth $534 million being lost back in January.

Other major exchanges, such as OKEx, already cap leveraging to three times the amount of capital that an investor has. Kraken offers up to five times leverage, but only to users who have verified their identity. The number of pairings it offers is currently restricted, and pairings involving euros are not available in some US states.

Coinsbit, a new trading platform, is also planning to introduce margin trading by the end of the year — along with crypto loans in U.S. dollars. The company is hoping to stand out from the hundreds of other exchanges by tackling the security and liquidity concerns that traders face, as well as high transaction fees. More than 95 percent of all currency is stored in cold wallets. Web Application Firewall (WAF) — a protective screen of a web application — detects and blocks hacker attacks. Coinsbit is currently working to get listed on CoinMarketCap.

Any tips for getting the best results?

First and foremost, remember that it’s your money at stake.

Generally, margin trading should be considered as a short-term investment – not least because of the wild volatility that often grips the crypto market.

You should never invest more than you can afford to lose, and it’s always worth setting limits that will automatically pull you out of an investment whenever it falls below a certain level. Similarly, setting profit targets also ensures that you exit a trade at the optimal time.

Once again, this is an advanced activity that should not be entered into lightly.

You should always factor in any costs that may arise as part of your margin trading – such as platform fees and interest rates to lenders – and it’s always worth gaining experience and confidence through trading with your own money first.

Is margin trading available on all crypto exchanges?

Most of them – but not all.

As we mentioned earlier, the likes of OKEx and Kraken have rolled out this feature, but some of the bigger crypto exchanges such as Binance do not offer margin trading at present. Huobi activated margin trading back at the start of 2020, and this service is also available through HitBTC, Bitfinex and Bithumb.

Cointelegraph recently reported that Bakkt, the upcoming regulated ecosystem for crypto assets around the world, will also not support margin trading – and says its platform is meant to ensure that “the buying and selling of Bitcoin is fully collateralized or pre-funded.”

Disclaimer. Cointelegraph does not endorse any content or product on this page. While we aim at providing you all important information that we could obtain, readers should do their own research before taking any actions related to the company and carry full responsibility for their decisions, nor this article can be considered as an investment advice.

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Margin Trading, Explained

Most of them – but not all.

As we mentioned earlier, the likes of OKEx and Kraken have rolled out this feature, but some of the bigger crypto exchanges such as Binance do not offer margin trading at present. Huobi activated margin trading back at the start of 2020, and this service is also available through HitBTC , Bitfinex and Bithumb .

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