Leverage Trading Is a Double-Edged Sword: Here’s How to Make the Most of It
Trading with leverage is one of the things that make forex and CFDs trading in general so attractive. That’s because one can take a small amount of capital and magnify it into a considerable amount within a very short time.
What is leverage trading?
For someone new to trading, leverage trading is using borrowing capital to open a larger position size. A broker allows you to use leverage trading by lending you the capital in what is commonly known as margin trading. If a leveraged trade goes your way, you can make a significantly higher profit than you would not have made if you only traded with your capital.
Leveraged trading is a double-edged sword
Up to this point, leveraged trading sounds like a great idea, right? It is, but it also carries some significant risks. You can make money off very little capital when a leveraged trade goes in your favor. However, if things don’t go your way, you can lose all your capital instantly.
How to use leverage to your advantage
As mentioned above, leveraged trading can work for or against you, depending on how you apply it. Follow the steps below to make the most of a leveraged trade.
Don’t get greedy
Most exchanges allow you to leverage up to 10x your capital. This may sound enticing, but it also means that even the slightest correction in the market can wipe out your account. To make the most of a leveraged trade, you need to tame your greed. Only use a level of leverage that augments your capital and potential gains while keeping your risk of loss significantly low. It is better to gain a little than lose everything.
Make use of risk management tools
Besides engaging a reasonable level of leverage, it is essential to ensure that you combine it with other risk management tools. For instance, you can use stop loss and take profit tools as part of your trading strategy.
One of the best risk management tools is trailing stop loss. This stop-loss moves with the price, essentially locking in gains as the trade moves in your favor. The goal is to ensure that, even if the trade goes against you at some point, you still have gains locked into the exit price.
Follow the trend
Before opening a leveraged trade, understand the overall direction the market is going and move with it. This ensures you make the most of a leveraged trend as the market keeps moving.
So, how do you ensure you are trading with the trend? While there is no foolproof way to do it, there are a few tips you can use.
- Look at the long-term charts.
In the short term, hours and days, prices are usually dictated by speculation. This means you can’t accurately tell the trend by looking at the 1-hour chart. However, looking at the weekly and monthly charts, you can see a clear direction of where the market has been going over time. Use this information to make an informed, low-risk, leveraged trade.
- Be keen on the news
News has a vital role when trading. That’s because, depending on how strong they are, they can turn the market’s trajectory. As such, before you open a leveraged trade, make sure that you are fully aware of the news that has been released recently or upcoming news that could impact your trade.
Leverage, if applied right, can lead to a high degree of success when trading. You need to have a risk management strategy in place and always be up to date with news and overall market fundamentals of the asset you need to trade. It would help if you also were disciplined enough to not overleverage in the hopes of hitting a home run in one trade.