Margin trading definition

What is margin trading?

Margin trading is a way of speculating on financial markets that involves amplifying your exposure using leverage. Leverage is a facility that enables you to open a position on a market without needing to put up the total value of your position. 

Instead, you only need to put up a deposit known as a margin, and your provider loans you the rest. 

How to trade on margin

You can trade on margin using a leveraged product, such as CFDs.

When you open margined trade, you’ll only have to put down a deposit: a percentage of your position’s full exposure. For example, if you want to open a position on $1000 worth of shares and your provider has a margin requirement of 10%, the initial capital needed would be $100.

Once your trade is open, you must then maintain a minimum amount of cash in your account to keep your position running. If the balance of your account falls below this maintenance margin, your provider would then ask you to increase the funding in your account – this is known as margin call.

What are the risks of margin trading?

While margin trading can increase your profits, it can also lead to amplified losses. That’s because your profit or loss is calculated using the full value of the position, not just the margin. If the market moves against you, it is important to be aware that your losses could exceed your initial outlay.  

Let’s take our above example. If your $1000 worth of shares rose to a value of $1200, then you would have made $200 – double your initial outlay. But if the shares had fallen to $800 instead, then you would have lost $200, again double what you originally put down. 

However, there are numerous ways that you can manage your risk and limit your potential loss. Stops and limits, for example, will trigger at your chosen levels and close your positions automatically – preventing running losses, or locking in profits.

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