What is Margin Trading in Forex ?

Margin trading is the term used when trading forex with borrowed capital. That is how you open $10,000 or $ 100,000 worth positions with only $50 or $1000 in your trading account. You can conduct relatively large transactions, very quickly and cheaply, with a small amount of initial capital.

There is a minimum amount of currency that we have to buy in order to open a position in foreign currency trading market. In forex terminology we call this minimum amount, a "lot". When you go to the super market you cannot just buy a biscuit. You will have to buy a whole packet. It does not make any sense to buy 1 Yen. That is why they come in lots.

Carefully read the following example to understand the concept behind this.

You believe that signals in the market are indicating that Euro will go up against the US dollar. You open one lot (100,000), buying with the Euro at 1% margin and wait for the exchange rate to climb.

When you buy one lot (100,000) of EUR/USD at a price of 1.4000, you are buying 100,000 pounds, which is worth US$140,000 (100,000 units of Euro * 1.40 (exchange rate with USD).

If the margin requirement was 1%, then US$1400 would be set aside in your account to open up the trade (US$140,000 * 1%). You now control 100,000 Euros with US$1500. Your predictions come true and you decide to sell.

You close the position at 1.5000. You earn 100 pips or about $1000. (A pip is the smallest price movement available in a currency).

When you close the position, the original amount you deposited as the margin requirement is returned to your account with necessary adjustments for the profits/ losses you made.