Leverage: Possible Gain, Potential Loss


By Darrell Martin

Whoever came up with the idea of allowing someone to utilize leverage by putting up a small amount of money to control a larger amount of something else was brilliant.

He obviously saw the advantages it could bring to the small investor who would now have the chance to increase his account size. This bright idea must have also afforded its author the thought of what he could gain from it.

A quick check at Dictionary.com not only gives the definition and origin but supplies an interesting “leverage in Culture” definition. It says, “The amount in which a purchase is paid for in borrowed money.

The greater the leverage, the greater the possible gain or potential loss.”

Most traders probably concentrate on the possible gains and neglect to think about the potential losses.

However, if you think about the way a lever works in order to give leverage, the above definition is accurate. The lever, combined with a fulcrum, works by pivoting to make something move two ways.

The ups and downs of the market provide the two directions of movement which then fuels the leverage for the investor.

Current U.S. rules of the National Futures Association (NFA) and the Commodity Futures Trading Commission (CFTC) cap that leverage at 50:1 on major currencies. This means that if an investor put up $1,000 he could borrow up to $50,000.

In 2010, U.S. regulators tried to tighten the leverage cap to 10:1. Other countries allow 200:1 and allow plastic to fund the trade. The NFA announced in December that the CFTC had banned the use of credit cards to finance currency trading in the U.S. beginning January 31, 2015.

This is aimed at protecting investors from losing too much money should the market move against them. If you use the 50:1 leverage and the market moves against you just 2 percent, that equals 100 percent loss!

If you add on the needed margin for the currency accounts, you can see how quickly you could empty your account. If the market moves fast enough blowing through any stops you may have set, then you can lose much more than just your account.

This is the case investors found themselves in on January 15, 2015, when the Swiss franc cap was abandoned and the market plummeted in mere minutes.

Not only did the trades they were in lose, but added to that loss was the margin that was required in order to be in those trades. Margin can make your losses magnified.

When you trade with Nadex, your risk is defined upfront and completely capped. There is never a margin call. When the market moves against you, you can’t blow through your account.

The risk and the reward amounts are clearly defined. You can use Nadex as the only exchange you trade with or you can use them to hedge against other trades you may be involved in.

If you would like more information on how to avoid margin calls and trade using Nadex, go to www.apexinvesting.com. Apex Investing Institute offers free education, and free access to the Nadex Binary and Spread Scanner Analyzers. Member traders are invited to trade in the chat rooms, take advantage of trade signal services, use key indicators and access the Apex Forum. The forum content is updated daily and includes over 10,000 members. In a supportive learning community of seasoned as well as up and coming traders, traders of all levels learn how to trade Nadex binaries and spreads in depth, as well as futures, forex, stock and options, and gain an edge for successful trading overall.

(leverage. (n.d.). The American Heritage® New Dictionary of Cultural Literacy, Third Edition.