CFDs Leverage & Margin Trading Explanation and Example

Margin required : It is the amount of money your cfd broker requires from you to open a position. It is expressed in percents.

Equity : It is the total sum of trading capital you have in your trading account.

Used margin : amount of money in your trading account which has already been used up when buying a cfd contract, this contract is one that is displayed in open positions. As a trader you can not use this sum of money after opening a trade order transaction because you have already used it & it isn't available to you.

In other terms, because your cfd broker has opened up a trade transaction for you using the trading capital you have borrowed, you must sustain this usable trading margin for your account as a collateral to allow you to continue using this leverage he has given you.

Free margin : amount in your account which you can use to open new trade positions. This is the amount of money in your trading account which has not yet been cfd leveraged because you've not yet opened a trade with this money - this money also is very important for you as a trader because it enables you to continue holding your open positions as will be explained below.

However, if you over use cfd leverage, this free margin will go below a certain percent at which your cfd broker will have to close out all your positions automatically, leaving you with a large loss. The cfd broker at this point stops out all your position because if your positions are left open they would lose the money you have borrowed from them.

This is why you should always make sure you have a lot of free margin. ToIn-order-to do this never trade more than 5 % of your account, in fact two percent is recommended.

Difference Between Leverage Set by the Broker & Used CFDs Leverage

If the set cfd leverage is 100:1, it means that you can borrow up to 100 dollars for every dollar which you have in your trading account but you don't have to borrow all the $100 dollars for every dollar you have, but you can decide to borrow 50:1 or 20:1. In this case even though the leverage option set 100:1 your used cfds leverage will be the 50:1 or 20:1 that you have borrowed to make a trade position.

Example:

You have $1000 dollars (Equity)

Set 100:1

Leverage Used = Amount used /Equity

If you buy cfd trading lots equal to 100,000 dollars that you'll have used

= 100,000/1000

= 100:1

If you buy cfds lots equal to 50,000 dollars you'll have used

= 50,000/1000

= 50:1

If you buy cfds lots equal to 20,000 dollars you'll have used

= 20,000/1000

= 20:1

In these three cases you can see that even though the set is 100:1

The used is 100:1, 50:1, 20:1 depending on the size of cfd lots traded.

So Why not Just Choose 10:1 option as the Maximum Leverage? Because to keep within proper risk management rules it is even adviced that traders use less than this?

This question may seem straight forward but it's not, because when you trade you use borrowed money known A.K.A. Leverage. When you borrow capital from anyone or from a bank you must sustain a security or collateral to acquire a loan, even if the collateral is based on monthly deductions from your own salary, the same thing with CFD.

In cfd the security is known as margin. This is the trading capital which you deposit with your broker.

This is calculated in real-time as you trade. To keep your borrowed amount you must preserve what is known-asreferred-to-as the required capital (your deposit).

Now if Your Leverage is 100:1

When trading, if you have $1,000 & use leverage ratio 100:1 & buy one standard lot for $100,000 your margin on this trade transaction is the $1000 dollars in your trading account, this is the money that you'll lose if your open trade transaction moves against you the other $99,000 that is borrowed, they will stop out the open cfd positions automatically once your $1,000 has been taken by the trading market.

But this is if your cfd broker has set 0% CFD Margin Requirement before stopping out your cfds trades automatically.

For 20 percent requisite before stopping out your cfds positions automatically, then your trades will be closed out once your trading account balance gets to $200

For 50 percent prerequisite of this level before closing your cfds transactions automatically, then your trade transactions will be closed out once your account balance gets to $500

If they set 100 Percent requirement of this level before closing your open trade transactions automatically, then your trade will be closed once your trade account balance gets to $1,000: Explanation the trade will closeout as soon as you the trader execute it because even if you as a trader you pay a 1 pips spread your account balance will get to $990 and the needed percent is 100% i.e. 1,000 dollars, therefore your orders will immediately get stopped out out.

Most brokers don't set 100 Percent requirement, but there are those who set 100% are not suitable for you at all, select those set 50% or 20 percent margin prerequisite, in fact, those brokers who set it at 20% are some of the best because the likelyhood they close out your trade position is reduced as displayed in examples above.

To know about this level which is calculated by your platform automatically - The MetaTrader 4 CFD Software will display this as "CFD Margin Requirement", This will be displayed as a percentage the higher the percent the less likely your positions are to get closed out.

For Example if

Using 100:1

If cfd leverage is 100:1 & you transact cfd lots equivalent to $10,000

$10,000 divide by 100:1, used capital is $100

Calculation:

= Capital Used * Percent(100)

= $1,000/$100 * Percent(100)

CFD Margin Requirement = 1,000 %

Investor has 980% above the required amount

Using 10:1

If cfd leverage is 10:1 & you transact cfd lots equivalent to $10,000

$10,000 dollars divide by 10:1, used capital is $1000

Calculation:

= Capital Used * Percent(100)

= $1,000/$1000 * Percent(100)

CFD Margin Requirement = 100%

Investor has 80 Percent above the required amount

Because when a trader has a higher cfd leverage means that they have more percent above what's required(A.K.A. More "Free CFD Margin") their open cfd transactions are less likely to get closed. This is the reason why traders will choose the option 100:1 for their account but according to their risk management rules, these investors will not trade above 5:1.

These Areas are Shown on The Software Screen-Shot Below as an Example:

MT4 CFD Software