Leverage and Margin

Leverage and Margin

Leverage and margin are core components of trading with derivatives like CFDs, and while closely related, they refer to different aspects of capital management. Leverage allows a trader to control larger positions with less capital, while margin refers to the portion of funds required to open and maintain those positions. One enables the other — but each plays a distinct role in shaping a trader’s risk and exposure.

How Leverage Works

Leverage is the mechanism that allows traders to amplify the value of a trade using borrowed funds. By increasing exposure beyond what is available in the account, traders can potentially magnify returns — but also losses.

For example, a leverage ratio of 100:1 means a trader can control $100,000 in the market with only $1,000 of their own capital. This makes leverage an efficient tool for gaining more market exposure, entering multiple positions, or operating in higher-value instruments without fully funding the trade.

However, leverage also increases the risk. For instance, with 100:1 leverage, a 1% adverse price movement could result in a $1,000 loss — effectively wiping out the trader’s entire capital. This underscores the importance of risk management and the need to use leverage carefully.

The amount of leverage available often depends on the asset being traded and regulatory conditions.

What Margin Means

Margin is the actual amount of capital a trader must provide to open a leveraged position. It’s effectively a deposit — a small percentage of the total trade size — that acts as collateral. This margin ensures the broker can manage potential losses from the trade.

To illustrate, opening a $50,000 position with a 10% margin requirement would require only $5,000 in the trader’s account. The broker effectively lends the rest, allowing the position to be opened and maintained as long as account equity remains above the required margin level.

Why Traders Use Them

Both leverage and margin offer advantages when used correctly. Margin allows capital to be used more efficiently, enabling traders to diversify across multiple instruments rather than concentrating funds in a single position. Leverage enhances the potential return on capital — allowing for greater profit from smaller movements in price.

Additionally, margin trading is generally integrated into account structures, meaning funds are accessible without additional approvals once the account is active. This creates more flexibility for traders who want to respond quickly to market conditions.

Risks to Consider

The ability to multiply returns comes with the equal possibility of multiplying losses. A position that moves against the trader by just a small percentage can result in a significant loss, particularly when higher leverage is involved.

There are also ongoing costs associated with leveraged positions. Interest is typically charged on borrowed funds overnight, and while these costs may seem minor day-to-day, they can accumulate — especially for trades held over longer periods.

In markets with sharp price movements, there’s also the risk of margin calls or forced liquidations. If account equity falls below the required level, the broker may close out positions without warning to protect against further losses.