One oft-overlooked aspect of trading that is crucial to building a solid trading foundation is limiting the use of leverage in your trading.
The use of leverage is arguably the most important aspect of risk management and proper risk management is the top priority of all professional traders. Leverage is simply a way of trading with more money than you actually have in your account. Using leverage can maximise gains, however, it can also increase losses too. This is one of the reasons that the Financial Conduct Authority in the UK would like to reduce the amount of leverage accessible to traders. In June 2018, it emerged that one broker had accidentally allowed a trader to open a $5 billion dollar position. The trader, who thought he was trading a demo account, was actually placing $1 billion worth of live orders for US and European equity futures. The trader ended up with a profit of $10 million dollars, but his initial deposit with the broker had only been $20K. He was using leverage over 200 thousand times above his initial deposit. Leverage that is used recklessly, indiscriminately and with wanton disregard will eventually result in the total loss of your trading account.
Limit the use of leverage
The first and most important step in making leverage work for you is to limit the use of your leverage. The general rule of thumb is that you should try to avoid using leverage as much as possible
What is leverage?
The following example will make it clear. Imagine that you have 100,000 USD in your account. If you buy 1 lot you would now be considered to be trading without leverage. This is because your trade size is equivalent to the amount of money in your account. Your position size is 1 lot, 100,000 USD, and your account size is 100,000 USD. They are the same. In the picture below you will see an order opened on an MT4 account. The trade size is 1 lot. A position opened in this scenario would be for a trader not using leverage with a 100,000 USD account.
So, are you using too much leverage in your trading?
