Lesson 7: Key Terms Used in Forex Trading

Let’s assume you deposit $1,000 in your account and decide to open a short position on EUR/USD worth $10,000, you will see a humongous creature that looks like this:

Bid / Ask Pair Position Size Entry Price Current Price Margin Level Equity Used Margin Free Margin Balance Floating P/L
$100 $10,000 $100
Short EUR/USD 5,000 1.20000 1.20000 167% $100 $60 $40 $100 $0

So what the heck are these???

Margin

This is equivalent to the amount of money you deposit in your account to enable you trade with a large volume of a currency. E.g., you want to trade with $10,000 but you only have $1,000. You will be given a margin requirement of 1000/100000 = 1%.

Leverage

This refers to the ability to use a small amount of money to trade a large volume of a currency

Leverage = 1/Margin Requirement

Margin = 1%

Leverage = 1/0.01 = 100:1

In this case, you use the margin to give yourself some leverage in forex trading.

Unrealized Profit or Loss (Floating P/L)

You normally see this gazing at you from the top right corner of your trading account tab, like an eye of a monster. It tells you the amount of profit or loss you have earned from your open positions. This will not affect your actual amount until you close your open positions (orders).

Balance/Account Balance/Cash

In forex trading, this refers to the actual amount that is in your trading account. It includes your initial deposits plus profits or/and minuses losses earned from closed positions/trades.

Margin Requirement

This refers to the margin size that enables you to open a position, which applies differently to different positions. It is calculated as a percentage of the real or notional value of the position you want to open, e.g. 1% of $10,000 in the example above – 1% is the margin requirement.

Required Margin/Entry Margin/Initial Margin/Maintenance Margin Required

The required margin in forex trading refers to the cash in your account that has been set apart to support an open trade. For example, if you open a position for a nominal value of $10,000 with a margin requirement of 1%, your broker will lock up $100 (0.01*10,000) for the entire time that your trade will be open. You cannot use this amount to open another position in forex trading.

You cannot touch this…

Assuming your account balance or initial deposit is $1,000, the required margin reduces the amount available for you to trade to $900. The required margin will be available for trade only if you close the open positions.

Used Margin/Total Margin

This refers to the minimum amount of margin that is set aside for all the open positions or trades. So if you bought USD/EUR and sold JPY/EUR, you have two open positions. Thus, the required margins set aside to maintain each of these trades are summed to get the Used Margin.

Equity/Account Equity/Net Asset Value

Equity refers to the real-time value of your assets in forex exchange. It includes the account balance plus the floating profit or loss in your account. When you close your trade, the account balance changes and becomes equal to the equity amount.

Free Margin/Usable Margin/Available Margin

This is the amount available to open a new trade after locking up the required margins for other open trades. Thus,

Free Margin = Equity – Used Margin

If you have an equity of $1020 and used margin of $1000, you have only $20 available as free margin, which you can use to open another forex trade.

Margin Level

Margin level in forex trading is a percentage of equity to margin ratio in your account. Thus, if your Equity is $1,000 and you used $500 already, the margin level is 1,000/500 = 200%. This value is used by brokers to check your account to ensure that you do not use up all your equity in your account.

If your margin level comes below 100%, which means that you have used more than your equity, you risk your open positions being closed. This happens due to high losses in the current trades, and the trades are closed to protect you from further losses.

Margin Call Level

While the margin level is a metric used to measure a trader’s ability to trade, marginal call level is a specific level of the metric that triggers a certain event. For instance, you may be restricted from opening a new trade when the margin level reaches 100%, so this percentage becomes the margin call level. Most traders will warn you if your margin level comes below this marginal call level.

Stop Out Level

Some forex traders will close all your open trades if the margin level reaches a certain minimum level, which is often less or equal to the margin call level.

This is called stop out level because your existing trades are stopped automatically by your broker. For instance, if your stop out level is 20%, it means that your equity is less than your used margin by 20%.

Perhaps you have used $400 and you have an equity of only $80. Your broker will close this trade to prevent further losses. At this point start wondering how and why you got yourself into forex trading in the first place.

Remember, 70% of forex traders often lose money in forex trading. To be part of the 30% success stories, do not even think about jumping into forex trading without completing this course.

Lesson 8: Choosing a Broker in Forex Trading

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