The good, the bad and the ugly of margin trading
Summary: With great buying power comes great responsibility
Whatever your level of trading experience – rookie, seasoned trader or expert – you know that trading is all about timing and being ready to make the most of the opportunities the market gives you. And that’s where margin trading can make a difference – just be sure that you understand both the advantages and the risks.
When you trade, your buying power typically equals the capital in your account. Margin trading, however, increases your buying power, so you can punch above your weight when opportunities arise. The extra power comes in the form of additional funds provided by the broker when you open the position. In short, you invest a percentage of the total order and the broker provides the remaining liquidity.
If you’re a rookie trader, you’ll need to be extra careful with that extra buying power. While trading on margin can help you boost any returns, it will amplify any losses as well. Think of margin as a double-edged sword – and since drawdowns are inevitable in trading, it’s doubly important to stay disciplined. When you can achieve consistent results, you might consider taking on larger positions.
Divide and conquer
Seasoned traders are adept at finding new trading opportunities – stocks from various sectors or regions, not to mention other asset classes that you might watch. How do you choose? With margin trading, you won’t have to miss out on any potential winners.
The extra buying power you get with margin trading also frees up your available capital, so you’ll be able to open more positions at one time. For instance, you could use a portion of your buying power to buy a stock that’s just broken through a resistance level, and still be able to take an FX position when the latest job data is released.
Margin trading isn’t simply about getting more bang for your buck – for expert traders, it can play an important part of your risk-management strategy as well. To spread your risk, you need more than stocks in your portfolio – and to add currencies, indices or commodities like gold or oil, you can consider trading margin products such as CFDs (Contracts for Difference), futures or options.
Margin products also allow you to go short. That means you can not only profit from falling markets, but also hedge your current positions by shorting a stock – or even an entire index such as the FTSE 100 or the S&P 500 – with a margin-enabled CFD.
No matter where you are in your trading journey, margin can help you take your trading to a new level. But remember, with more power, the more you’ll need to understand the market.