How to Calculate Leverage and Margin in Gold Trading
The definition of Leverage is having the ability to control a large amount of money using very little of your own money and borrowing the rest - this is what makes the online Gold trading market to attract many traders and investors.
We shall us this example to explain what leverage is? If your broker gives you leverage of 100:1 (this is the best option to choose as the maximum for any account that you will be trading with)
This means you borrow 100 dollars for every dollar you have in your Gold trading account.
To put in another way your broker gives you 100 dollars for every 1 dollar in your trading account. This is what is known as leverage.
This means if you open an account with $20,000 and your leverage is 100:1, then your get $100 for every $1 you have, the total amount of capital you will control after leverage is applied is:
If for 1 dollar the broker gives you $100
Then if you have 20,000 you will get a total of:
$20,000 * 100 = 2,000,000 dollars
Now you control 2,000,000 dollars of Investment
Most new Gold traders ask what leverage is best for 20,000 dollars, or 50,000 dollars, or 100,000 dollars account? The best option to choose when opening a live Gold trading account is always 100:1 and not 400:1.
What is Margin?
Margin is the amount of money required by your broker so as to allow you to continue trading with the borrowed amount.
In other words the question what is margin in Gold trading? Can be explained as the money required to cover open Gold trades and is expressed in percentage. For 100:1, the amount you will control is 2,000,000 dollars as explained in the above example.
Now can you compare someone investing $20,000 with another one investing $2,000,000? Obviously Not. This is how it works; leverage takes you from that guy investing $20,000 to that one investing $2,000,000 or from that one investing $50,000 to that one investing $5,000,000. Where does this extra money come from? You borrow from your broker in what is simply known as Leverage. This money that you borrow, you borrow it against the $20,000 dollars of your own that you deposit with your broker. If you were to explain what this means - then it is the ability to control a large amount of money using very little of your own money and borrowing the rest. Otherwise, if you were trade Gold without this leverage it would not be as profitable as it is, in fact you can still choose not to use leverage when trading Gold, using the leverage 1:1 option - but you would not make money, it would take too long to make any profit. In online trading leverage is what makes trading in financial instruments profitable.
Example of how to calculate leverage:
Margin required in this case is 20,000 dollars (your money) if it is expressed as a percent of 2,000,000 dollars which you control it is:
If leveraging = 100:1
20,000 / 2,000,000 * 100= 1%
Margin required = 1%
(1/100 *100= 1%)
"TradeGoldTrading - Please simplify because I am Beginner"
(Simplify - your capital is $20,000 after leverage you control $2,000,000 - $20,000 is what percent of $2,000,000 - it is 1%) that is your margin requirement.
In the example below, the set leverage is 100:1, the margin which is 1% is $2683.07, therefore the total amount controlled by the trader is: $268,307 - this is because with leverage the trader has used little of his money and borrowed the rest, with this leverage set at 100:1, the trader is using 1 % of their capital, this 1% is $2683.07, if 1% is $2683.07 then 100% is $268,307.
MetaTrader 4 Transactions Window - Online Platform for Trading Gold and Currencies
If leverage = 50:1
Then margin requirement = 1/50 *100= 2%
If you have $20,000,
20,000* 50 = $1,000,000.
20,000 / 1,000,000 * 100= 2%
(Simplify - your capital is $20,000 after leverage you control $1,000,000 - $20,000 is what percent of $1,000,000 - it is 2%) that is your margin requirement
If leverage = 20:1
Then the margin requirement = 1/20 *100= 5%
If you have $20,000,
20,000* 20 = $400,000.
20,000 / 400,000 * 100= 5%
(Simplify - your capital is $20,000 after leverage you control $400,000 - $20,000 is what percent of $400,000 - it is 5%) that is your margin requirement
If leverage = 10:1
Then the margin requirement is = 1/10 *100= 10%
If you have $20,000,
20,000* 10 = $200,000.
20,000 / 200,000 * 100= 10%
(Simplify - your capital is $20,000 after leverage you control $200,000 - $20,000 is what percent of $200,000 - it is 10%) that is your margin requirement
What is The Difference Between Maximum Leverage and Used Leverage
However, you should note that there is a difference between maximum leverage (leveraging given by your broker which is the highest leverage you can trade with if you choose to) and used leverage (leveraging depending on the lots you have opened/open positions). One is the broker's set leverage (Maximum leverage) and the other is trader's leverage used (Used leverage). To explain this concept we shall use the example above:
If your broker has given you 100:1 Maximum leverage, but you only open trading lots of 100,000 dollars then Used leverage is:
100,000 dollars (1 lot): 10,000 dollars (your money)
Used leverage - 10:1
Your have used leverage 10:1, but your maximum is still 100:1. This means that even if you are given 100:1 Maximum or 400:1 Maximum, you do not have to use all of it. It is best to keep your used leverage to a maximum of 10:1 but you will still select 100:1 maximum option for your trading account. The extra leverage will give you what we call Free Margin, As long as you have some Free margin on your trading account then your trades will not get closed by your online broker because this margin requirement will remain above the required margin level. If your free margin falls below the required level then your broker will have no choice but to close all your open trades using what is known as a margin call. Having enough free margin will prevent your trades from getting closed because of your account getting a margin call.
When it comes to trading Gold one of your rules: money management rules on your Gold trading plan should be to use leverage below 5:1.
In the above screenshot example, the trader trading currencies USDCAD and GBPCHF is using $2683.07, as their margin the total controlled leveraged amount is $268,307, but account equity is $16,116.55, therefore used leverage is ($268,307 divide by 16,116.55) = 16.64 : 1
Used leverage 16.64 : 1
We have used the example of a trader trading currencies, now download the MetaTrader 4 platform, open a practice account and open 1 lot of Gold and determine the leverage that is used to open that trade.
Leverage and Trading Gold Lots
In Gold trading - gold is traded as lots, commonly known as contracts. 1 contract or 1 lot of Gold is made up of 100 units of Gold. 1 unit of Gold is the Ounce. Therefore, 1 lot of Gold is equivalent to 100 Ounces of Gold.
If price of Gold is $1200 per ounce, trading 1 lot of Gold equal to 100 ounces of Gold means that a trader will be trading a contract worth $1,200*100= $120,000. Therefore, 1 Gold lot will be equal to $120,000 - to trade this 1 lot a trader with leverage 100:1 only needs to have $1,200 as their margin and then borrow the rest using leverage from their broker.
Margin trading accounts allows traders to control a large amount of currency using little of their own while borrowing the rest
Obtaining this account will enable you to borrow money from your broker to trade Gold lots with; the lots of Gold are worth about $120,000.
The amount of borrowing power your account gives you what is called "leverage", and is usually expressed as a ratio - a ratio of 100:1 means you can control resources worth 100 times your deposit amount or the balance amount in your account.
What this means in trading terms is that with 1% margin in your account you can control a trade worth $120,000 with a $1,200 deposit amount.
However, trading this account increases both potential for profits as well as losses. In online you can never lose more than you invest, losses are limited to your deposits and usually online brokers will close a transaction that extends beyond your deposit amount by executing what is known as a margin call. Traders must therefore try to keep their margin level above that which is required by their broker. By using money management rules and keeping your used leverage below 5:1, then as a trader can learn how to manage this and keep your risks to a minimum.
Update: in online you can lose more than you deposit with some brokers; that is why when opening an account you should look for a Negative Balance Protection Policy (NBP), this policy means you cannot lose more than you deposit.
Advantages of Leverage
As mentioned above, this type of trading account gives you more buying power and the potential for more profits or losses. How this works is; a 1% margin allows you to control a position size of $2,000,000 with $20,000. When you open a transaction with $2,000,000 small market changes in the price of the Gold metal can result in large profits or losses.
Gold movements are measured using points known as pips. For example, USA dollar, is transacted in units down to 2 decimal places, the last decimal place is called a pip. The price quote of Gold is seen as $1200.50 - When you are trading one lot of $120,000 then each pip is worth $1 profit. So if this price moves up 1 pip to $1200.51 you will make $1 profit. $1 change in the price of Gold is equal to 100 pips, if a Gold moves by $3 (300 pips) in one day, you make $300 dollars, if this move is against you, then you lose $300.
Supposing you now decided to use more leverage and trade 10 lots of Gold at once - When you are trading 10 lots of $120,000 then each pip is worth $10 profit. So if this price moves up 1 pip to $1200.51 you will make $10 profit. $1 change in the price of Gold is equal to 100 pips, if a Gold moves by $3 (300 pips) in one day, you make $3000 dollars, if this move is against you, then you lose $3,000.That it is not best to open positions with $1,200,000 - (10 lots of $120,000 = $1,200,000 of opened positions) just because you can, but you can open transactions of $120,000 or $240,000 as the maximum so that a 1 dollar move you will make $100 or $200 dollars respectively and if the move is against you - you only lose $100 or $200 dollars respectively and not a lot in terms of your account equity. There is also the method of money management and risk management topics that traders will learn on the next tutorials so as to understand more about leverage and also learn how to trade with leverage in a manner that will help them make profits in the long term.
If price changes from 1200.00 to 1200.50 which is a difference of 50 pips which represents a profit of $50. Without leverage if you had $20,000 of currency, the price change from 1200.00 to 1200.50 represents a difference of $0.5 profit. So the benefit of this online Gold trading is increased profit potential, your profit factor is multiplied by 100 or by 50 or by 20 depending on the total leverage used.
You do not need a calculator for these calculations, these levels are calculated and displayed by many of the online trading platforms, for example in MetaTrader 4 these levels are shown under the transactions window (Press CTRL+T on your keyboard to access it while your MT4 is open) these levels are displayed, just below your open transactions.