When you are about to start your trading career, you will have to familiarize yourself with a lot of terms and terminologies so trading makes sense to you from day one. Now, one of the most common terms that you will hear when it comes to trading with online brokers is leverage. You will notice that online brokers boast their leverages and always talk about them among the benefits of trading with them. So, you know that it is some great feature that brokers like to offer to their traders. But what exactly is leverage? Why is it there and how does it benefit you? Let’s find out.
What Is Leverage?
First, you have to know the concept of leverage. When traders sign up with online brokers, they don’t always have to deposit a lot of money in their trading accounts. Many traders are still only testing waters when they sign up with brokers. So, they don’t have enough money in their accounts to enter big trades even if they want to enter those big trades. That’s where the broker takes the responsibility of supplementing the trader’s account with enough money so that he/she can trade that particular asset. This money is supplemented in the form of a ratio. You will notice that brokers tell about their leverages in ratio formats, such as 1:10, 1:50, 1:100, 1:500, etc.
The 1 you see in the ratio is the dollar amount that you are supposed to invest to get a contribution of the amount on the right side of the ratio e.g. 10, 50, 100, 500. If you are getting leverage of 1:100, it means that for every dollar you invest in the trade, the broker will invest 100 dollars with you.
How Leveraged Trading Helps
Well, now that you know the concept of leveraged trading, it should not be hard for you to understand the benefits of it. First of all, it allows you to enter trades that you can’t otherwise enter because of the limited funds in your accounts. Secondly, it helps you increase your profits by increasing the size of your trade. You do have to keep in mind though that leveraged trading can work in the opposite direction as well. So, if you trade with leverage and end up with a loss, you can end up losing just as much money as you were thinking about making in profits. Keep that in mind every time you use leverage in your trades.
How You Can Use Leverage
First of all, how much leverage you can get on your trades depends on the account type you choose. In most cases, you get smaller leverages with basic accounts and bigger leverages with advanced account types. However, this particular factor can change from broker to broker. Once you have signed up with the broker, you need to use the leverage option when you open a position on a particular trade. You pick an asset on the trading platform, click trade, enter the amount you want to invest, and then choose the leverage you want to get on your trade.
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Leveraged trading is something you can only enjoy with online brokers. You cannot use them with online exchanges. However, you must not forget about the two-pronged nature of leverages. Therefore, it is highly recommended that you properly think about your trade and analyze it before you invest your money in it. You can always use stop loss and hedging techniques to minimize your losses and make your leverages even more effective.