Novice traders commonly wonder how much capital is needed to get started in active trading. The foreign exchange (Forex) market, where traders speculate on exchange rates between currencies, offers the possibility of vast rewards if you trade consistently well. But the risks are high and you can quickly lose most or all of your trading capital if you are not careful. You can find out exactly how much you need to trade by looking at a few factors.
To understand the cost of a given Forex position, you must first identify the exchange rate of the currency pair you wish to trade. The amount of money you need to make the trade depends, in part, on this number. In any Forex platform, identify the currency pair of interest and its current rate. Use a Forex rate website if you do not yet have a brokerage account.
The amount of leverage provided by your broker also affects the capital you need to make a trade. In the U.S., brokers are limited to a maximum 1:50 leverage for the major currencies. This means a $1,000 account can purchase $50,000 of currency, but many accounts use less leverage. If your leverage is 1:10, for example, you would need more money for a trade of the same size as a 1:50 account.
Finally, to calculate the actual capital required to make a given Forex trade, you must consider how many Forex units you will purchase. This is the number of "lots" you buy times the number of units in each lot, which varies depending on your brokerage account. For example, a standard Forex account contains 100,000 units of a Forex currency pair in a single lot. A "micro" Forex account contains only 1,000 units in a lot. If you trade three lots in a micro account, your trade size is 3,000 units.
Calculate Capital Requirement
To determine how much money you need in your Forex account to make a given trade, multiply the exchange rate times the number of units you will buy, and then divide by the leverage multiplier. For example, if you wish to buy the Euro against the U.S Dollar, the exchange rate may be 1.3098. If you buy four lots where each lot is 10,000 units, this is a total of 40,000 units. Assuming you have the maximum leverage allowed by law of 50, then the amount of money you need to make this trade is 1.3098 times 40,000 divided by 50, which is $1,047.84. Keep in mind that since you have 40,000 units, then if the exchange were to change by just one penny, to 1.2998, you will lose $400 ($0.01 times 40,000), or nearly 40 percent of your trade's capital. This demonstrates the huge risks associated with Forex trading.
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