Table of Contents
How to Calculate Leverage Margin and Pip Values in Forex
How to calculate leverage, margin and pip values in forex
What’s margin and how is it affected by leverage?
Where does the pip value fit into all of this?
Luckily for you, we answer these questions below.
What’s leverage? How to calculate leverage margin and pip values in forex
Let’s start with leverage.
You’ve probably heard this term being thrown around.
What is it, and is it necessary to understand how to calculate leverage, margin and pip values in forex?
Let’s look at an example.
Take the EUR/USD forex pair.
Let’s say you’re trading a micro lot and the price is $1.1345.
So, to buy one euro, you need US$1.1345.
Now, if this price moves by one pip to 1.1346, you’d have made 1, 000 (number of units in a micro lot) x 0.0001 (one pip), which is 10 cents.
This is the nature of currency movements.
You’ll never get a situation where the price of the currency pair doubles overnight, as we see in stock trading.
So, you’d need quite a tidy sum in order to make a reasonable profit.
That’s why brokers provide leverage.
Leverage is basically an interest-free ‘loan’ to amplify your position size.
How leverage affects the position size
In our previous example, we stated that you should only trade micro lots with a $1,000 trading account.
That’s fair enough.
So, let’s say you have 50:1 leverage.
That means for each $1 you put up, the broker will make it up to $50.
You’ll now be able to open a $50,000 position.
That’s leverage for you. Some forex brokers provide up to 500x leverage!
Leverage and margin: How to calculate leverage margin and pip values in forex
Nevertheless, using the above example, the $1 that you need to put up is called margin.
This is the minimum the broker needs from you to open that position.
The balance is covered by leverage.
A margin of $1 will give you access to $49 leverage.
Many novice forex traders look at this and think it’s an easy way to make a quick buck.
But if you ask professional forex traders, they will tell you that margin trading should not be approached lightly. That said, we believe you should get the maximum leverage possible. But truth be said, you don’t need much leverage to succeed.
You can make a killing using leverage, of course…
But the added risk can’t go unmentioned.
What’s the ideal leverage to use?
So, what’s the ideal leverage to use?
This is an important question.
Using high levels of leverage increases risk.
But this is still too high if you still have your forex trading training wheels on.
We suggest you keep your maximum leverage to 5:1 or 10:1, while you’re learning. That said, as we mentioned above, try to get as much leverage as possible when you actually know how to trade forex.
But the lower leverage will keep you focused on managing risk at the start. Put simply, this will lower the risk you’re taking per trade and keep you in the game for longer.
Remember, you need to stay in the game in order to succeed in forex trading!
Calculating the margin requirement
Many forex traders get confused about the importance of leverage.
The fact that it allows you to take on bigger positions is well known. That’s why we say, once you learn how to trade forex, lots of leverage is a good!
But not at the start!
We believe leverage is best used when you take on multiple positions in the long run.
Since the margin on each trade is smaller, with higher leverage, you can take on more trading opportunities and still maintain adequate risk management.
If you don’t know, the amount you need to open each trade is calculated as:
- Required Margin = Trade Size / Leverage x Account Currency Exchange Rate
Here is an example:
Let’s say you’re trading EUR/USD with 100 times leverage.
You’re trading four lots and the exchange rate is 1.344.
- Required margin = 400,000 / 100 x 1.344
The required margin is US$5,376.00.
If your equity drops below the margin, you will get a margin call! If you’re not familiar with margin calls, you can read lesson six: What is Free Margin in Forex.
Now let’s move on to pip values…
Pip values are important because they help you monitor your risk per trade.
It’s one thing to hear that you lost 10 pips. But if a value is placed on this loss, it brings perspective.
You need to know the pip value in order to do this.
But what’s pip value?
Let’s start by defining a pip.
This is the smallest change that can happen in the price.
For EUR/USD, the smallest change you can observe is 0.0001.
The pip value quantifies this change.
You calculate pip value as follows:
- Pip Value = (One Pip / Exchange Rate) x Lot Size
Let’s stick with EUR/USD for this example.
We will need the following information:
- One Pip: 0.0001. Currency Pair: EUR/USD.
- Exchange Rate: 1.0904 (EUR/USD).
- Lot Size: One Lot (100,000 EUR).
- Pip Value = 0.0001 / 1.0904 x 100,000
Each pip is worth 9.17 euros.
This might seem like a lot of money for every 0.0001 pip move. But we’re using a standard lot in our calculation. If you trade with a micro or mini contracts, a pip will be worth less.
Moreover, once you’ve got the value of one pip, you won’t have any problems when calculating your profit and loss.
It’s just a matter of multiplying the pip value by the total number of pips lost or gained.
You need to realise, though, that you won’t be prompted to crunch these numbers manually before placing a trade.
Most brokers have calculators you can use on their websites.
But it’s a good idea to know how it’s done.
Your ‘Start With Forex’ Takeaway: How to calculate leverage margin and pip values in forex
Now that you know how to calculate leverage, margin and pip values in forex, what next?
Can you jump in and place your first trade?
Not so fast!
You definitely know more than your average forex trader now.
Make sure to consider learning more about forex before you make your first trade. Also, use as little leverage as you can at the start to learn how to manage your risk.
Remember, forex trading is not a sprint. It’s a marathon – and it requires persistence and dedication.
If you want to learn how to trade forex like a professional, start by reading our FREE forex course. Remember, there’s a million ways to make a million bucks in the forex markets. So if you want a head start in forex trading, alongside our free course, check out our approved products page for forex trading signals and systems to help kick start your trading.
To your trading success,
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