Trading with Leverage – Pros and Cons of Leverage Trading

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Trading with Leverage

Leverage Trading is a method of trading offered by various trade brokers to investors and traders. People with very little capital to trade are drawn to high leverage stocks. Such traders feel they will become considerably wealthy in a shorter time duration than any other type of trading. Nevertheless, such earnings in leveraged trading are far from the truth.

In recent times, there has been an increased investment and trading in the stock and forex markets using leverage instruments. It is also seen that increased leverage and margins in major stocks and options across trading platforms. Forex trading platforms also provide massive leverages (up to 400X), making leverage trading an elusive trading instrument. We would like you to understand the complexities of leverage trading and be able to make efficient use of this tool for trading and investment. 

You should have proper knowledge of the stock market before doing leverage trading. If you are a beginner then you can join a good stock market course. The Thought Tree is one such institute that provides the best stock market course in Jaipur. Now, let’s talk about Leverage Trading in detail.  

What is Leverage Trading in the Stock and Forex Market?

Leveraging permits investors to establish a trading position with a very small amount of cash to take a greater market share. Leverage Trading allows investors to receive their prospective profits quickly and with very less capital investment; therefore, it is becoming a very appealing choice for traders. It is mainly used for Forex as a greater margin is available to you. It is also available for equity trading and other instruments depending on the broker platform. 

Leverage Trading can be compared to purchasing products or services on mortgage or installments. You can buy higher-worth stocks with minimal cost of direct investment. This means that as an investor, you can own equity of Rs. 20,000 with only Rs. 200 as an actual investment. Therefore, the term “leverage” refers to the ratio between the value of an equity versus the required investment. 

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How Leverage Trading Works

Suppose you want to invest in a currency using a particular leverage account. Your broker is offering 100X leverage to purchase 1000$ at the current market price (Rs. 76). This means you will only need to pay 10$ (worth Rs.760) to hold $1000 (worth Rs. 76,000) of assets on the broker platform. At the end of the day, if the value of the dollar rose by 2 rupees, you will have gained a profit of Rs. 2000 on capital of only Rs.760. This is the effect of leverage trading, and thus it attracts extensive capital from investors across the globe. 

Pros and Cons of Leverage Trading 

Pros of Leverage Trading

1. Lower Capital Investment

As mentioned above, the best feature of Leverage Trading is lower capital to hold a higher worth of assets in the equity or forex market. This feature is why most traders choose to trade using leverage because it lets them hold a larger size of a particular instrument without actually paying for it. 

2. Magnified Profits

If you hold a normal asset with your capital, it will result in limited profits based on your actual investment worth. As mentioned in the above example, you would have only earned Rs without leverage. 20 on an investment of $10. But due to 100X leverage, you were able to hold $1000, for which you received Rs. 2000 as profit. This is called magnification of profit, and it is generally equivalent to the value of leverage you receive. 

3. Suitable for Short Term Trade

Stock and Forex traders who mostly conduct intraday trade can benefit largely by leverage trading. Leverage is available for many assets, including options, which helps traders create a diverse portfolio without investing hard capital. Also, because the returns are magnified, it is very lucrative for intraday and short-term trading. 

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Cons of Leverage Trading

Irrespective of all the benefits, one must remember that exercising leverage trading is very risky. Just as the profits are magnified because of higher leveraging limits, they can also result in magnified losses. Based on the principle of profit magnification, if the asset loses its worth, it will result in higher losses. You will have to forfeit your invested capital and pay the loss amount to the broker. 

Many brokers also demand a high amount of caution money to be kept in the leveraged account to clear the losses from it. Thus, without sufficient knowledge and experience in the stock market, it is advisable not to initiate any leverage trading. 

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How to make Efficient use of Leveraging in the Share Market?

If you are enthusiastic about long-term success in the share market, you must adhere to the top trading guideline that applies to all markets. Whenever trading leveraged instruments in a turbulent market, the bigger the risks, the greater the level of expertise and experience required to handle potential losses. 

As mentioned above, leverage trading can be very rewarding if used properly. At the same time, it may dent your prospects by incurring tremendous debt to your broker. Most brokers will require you to deposit a collateral amount in case you lose capital with large margins. So to make money and not suffer major losses, it is suggested you learn from professional trading educators or join a good stock market course.



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Wednesday, 06th July 2022
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