The biggest appeal that forex trading offers is the ability to trade with margin.
But for many forex traders, “margin” is a foreign concept and one that is often misunderstood.
What does “Balance” mean?
In order to start trading forex, you need to open an account with a retail forex broker or CFD provider.
Once your account is approved, then you can transfer funds into the account.
This new account should only be funded with risk capital, which is cash you can afford to lose.
In your trading platform, you will see something that says “Unrealized P/L” or “Floating P/L” with green or red numbers beside them.
In this lesson, we explain what Unrealized P/L and Floating P/L are.
When trading, there are actually two different types of “profit or loss”, also known as “P/L”
When trading forex, you are only required to put up a small amount of capital to open and maintain a new position.
This capital is known as the margin.
For example, if you want to buy $100,000 worth of USD/JPY, you don’t need to put up the full amount, you only need to put up a portion, like $3,000. The actual amount depends on your forex broker or CFD provider.
Margin can be thought of as a good faith deposit or collateral
Margin is NOT a fee or a transaction cost.
Margin is simply a portion of your funds that your forex broker sets aside from your account balance to keep your trade open and to ensure that you can cover the potential loss of the trade.
This portion is “used” or “locked up” for the duration of the specific trade.
Once the trade is closed, the margin is “freed” or “released” back into your account and can now be “usable” again… to open new trades.
What does “Equity” mean?
The account equity or simply “Equity” represents the current value of your trading account.
Equity is the current value of the account and fluctuates with every tick when looking at your trading platform on your screen.
It is the sum of your account balance and all floating (unrealized) profits or losses associated with your open positions.
As your current trades rise or fall in value, so does your Equity.
What does “Free Margin” mean?
Margin can be classified as either “used” or “free”.
Used Margin, which is just the aggregate of all the Required Margin from all open positions, was discussed in a previous lesson.
Free Margin is the difference between Equity and Used Margin.
Free Margin refers to the Equity in a trader’s account that is NOT tied up in margin for current open positions.
Free Margin is also known as “Usable Margin” because it’s margin that you can “use”….it’s “usable”.
Free Margin can be thought of as two things:
The amount available to open NEW positions.
The amount that EXISTING positions can move against you before you receive a Margin Call or Stop Out.
What does “Margin Level” mean?
The Margin Level is the percentage (%) value based on the amount of Equity versus Used Margin.
Margin Level allows you to know how much of your funds are available for new trades.
The higher the Margin Level, the more Free Margin you have available to trade.
The lower the Margin Level, the less Free Margin available to trade, which could result in something very bad…like a Margin Call or a Stop Out (which will be discussed later).