How Leverage Works:

When you trade with leverage, only a percentage of the total trade value is required by the broker. The rest of the trade is financed by the broker or financial institution. The leverage ratio indicates how much larger your position is compared to your margin (the amount of capital required by your broker).

This allows traders to potentially gain higher returns with a smaller initial investment. However, the same leverage also means that losses are magnified. If the trade moves against you, your losses could exceed your initial margin, potentially leading to a margin call where you may need to deposit more funds to maintain the position.

For example, if you have a leverage of 10:1, this means you can obtain a position worth 10 times your actual investment. So, with a margin of £1,000, you could trade a position worth £10,000.

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Risks of Leverage:

Amplified Losses: Leverage can amplify losses if the market moves against your position, and you can lose more than your initial investment.

Margin Calls: If the trade moves too far against you, the broker may require you to deposit more funds to cover the losses, known as a "margin call." 

High Risk for Inexperienced Traders: Leverage is a powerful tool but it is also risky, especially for beginners who may not fully understand how it works.

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What is a Margin Call?

A Margin Call can occur if one or more of your positions move too far against you. The broker may require you to deposit more funds to cover your unrealised losses.

A Margin Call is a warning that one or more open positions are in a loss situation and there is insufficient capital on your account to maintain them. In theory the amount of capital in your account is not enough to support your borrowing, or the amount that the broker is prepared to lend given your capital situation. At this stage you must add further capital to keep your positions open. In this instance, failure to deposit further capital could lead to a Stop Out, meaning your trade will be closed by the broker.

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What is Margin Close Out (MCO)?

The Margin Close Out rule operates in exactly the same way as the Stop Out rule but will occur automatically when your total account value drops below 50% of the required margin.

Scenario 1:

You deposited your account with £1000 and used the whole £1000 as the initial margin to open a position. If the market now moves against you, your position will be in negative P&L and therefore you don't have the required margin to maintain your position anymore. You are now on Margin Call, which means you are required to deposit more cash to keep your position open.

Scenario 2:

You have now deposited another £500 but there is a sudden drop in the market price where you have an open long position, resulting in your account value dropping below 50% of required margin. Your position would now be automatically closed according to the MCO rule. If you had more than one position your biggest losing position would be closed first.

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