Forex-Zone

Since dealers have ultimate control over accounts and trades, they are
willing to loan money to the trader. That’s called margin – basically a loan
from the dealer to the trader, but based on the trader’s equity. Normally if
the trader wants to trade EURUSD he would need $100K, but not if the
dealer offers margin. Margin is another word for leverage, with a little
difference in concept.

Some dealers will allow you to trade a full standard contract with just
$500 in margin available. That means the user has to have at least $500
(or really $500 + spread) in their account to trade. If at any time their
account balance equals or drops below their margin requirement, the
dealer will liquidate all of their positions. That’s called a Margin Call. So if
you traded 5 contracts with $4,000 in your account, you would be using
$2500 in margin. If the trade went against you $1500, you would be taken
out.

When you traded the one contract with $500 in margin, you controlled
$100,000. That’s leverage. It’s 200:1 in this case (leverage = $100,000
divided by $ per contract as a % of total equity). In this example, you
would only be employing 200:1 leverage if your account equity was $500.
Most dealers have scaling margin which allows smaller accounts to use
something like 200:1 and bigger accounts to use 50:1, or 10:1. If you had
$20K in your account and played 40 contracts, that would be 200:1
leverage. $100K with 10 contracts is 10:1.

Leverage is one of the biggest reasons people trade forex, but it’s also one
of the biggest reasons people lose money. Be careful to manage your
leverage position when trading, especially when starting out.