Running the Margin Blade — Trading Smart With Leverage
Risk is an inherent factor of any type of trade. Fortunes have been made and lost trading in stocks, bonds, commodities, cryptocurrencies, and even empty promises. The reason for such tribulations in trading is that traders are obliged by a set of rules established on almost every trading platform known to man to put forward a certain amount of funds to prove that they are capable of buying the asset in question. Far too often, players on the trading market do not have enough collateral to buy the asset they wish to trade. This is where a strategy known as margin trading comes into play.
For any aspiring, budding young trader seeking to make a fortune by trading stocks or cryptocurrencies, the term “margin trading” may well be scary, like most other jargon and terms surrounding trading platforms. But once you examine it under the prism of common sense and are provided with a solid explanation, margin trading turns out to be nothing more than a common household name.
Edging Up on the Margin
In a nutshell, margin trading can be simply described as taking out a loan. In trading practice, it’s a bit more complicated, but the essence remains largely parallel to simply taking out a loan, which may be carried out even between friends. First and foremost, given the high risk that it bears, margin trading can only be carried out via a special account called a margin account. Margin accounts can be opened only by brokers (which can be the exchanges themselves), and it is brokers who provide the margin, or loan. The broker will require the client to undergo KYC procedures to open an account.
On digital asset exchanges like Xena Exchange, there’s no minimum entrance deposit, but to enter a margin position, the trader must have sufficient funds to pay the initial margin needed to open the position. Once the position is closed to your advantage, you get the initial margin back. This way, the initial margin serves as collateral guaranteeing that the traders can fulfill their obligations.
In the USA, according to Regulation T, traders on classical regulated exchanges can purchase on margin up to 50% of the initial price of the asset they want and need to make a deposit of at least $2,000.
Just like any other loan, traders can keep the margins for as long as they wish. But restrictions also exist in the form of something called a maintenance margin, which is the bare minimum account balance that traders must have on their accounts. That amount is for the broker’s security to make sure they get repaid. If that minimum falls below a set level, the broker has every right to force the trader to top up their balance or even sell the assets purchased on margin to repay their debts. Such a situation is known as a margin call.
Naturally, not everything can be bought on margin. The Federal Reserve Board (FRB) regulates what can and cannot be bought on margin. It’s common practice for brokers to not give out margins on over-the-counter Bulletin Board (OTCBB) securities, penny stocks, or initial public offering stocks (IPOs), since the risk they carry and their inherent volatility inherent is high. Individual brokers have the right to set their own rules on what to issue margins for and what not to. The example of the Facebook IPO and the subsequent plunge in the prices of its stocks almost immediately after its launch is clear evidence of why brokers do not give out margins on IPO stocks.
Given the significant level of nuance involved in margin trading, their statistics are tracked in real time. The New York Stock Exchange (NYSE) is responsible for tracking the total amount of margin debt in the world. Such statistics are necessary because of the high risk that margin trading bears and the influence it may have on the global economy at large. If the amount of margin trading exceeds acceptable levels, the exchanges can put a stop to the trading to reduce volatility.
More important in margin trading is the human factor, since many traders regularly overestimate their financial capabilities and thereby incur losses. As a result, only very advanced and highly skilled traders partake in margin trading.
Below is a short list of digital asset trading platforms and their rules for margin trading.
As the table shows, the differences are stark, as every platform implements its own levels of margin trading and decides its own level of trust in its participants.
To illustrate the destructive and return-generating power of margin trading, it’s best to give an example.
For instance, let’s say Nick decides to deposit $10,000 into a margin account. He uses $1,000 to buy 5 Bitcoins at a price of, say, $4,000. He places 5% of the purchase price of the asset he wishes to buy. This is also known as a x20 leverage. Nick anticipates that the price of Bitcoin will grow, and his forecast turns out to be correct. Over the next few days, the price of BTC increases by $500, which means he earned $2,500. If Nick had used x1 leverage or practically no leverage at all, he would have earned $125. That makes sense, right?
But imagine that Nick’s forecast turned out to be wrong and BTC decreased by, let’s say, $100. This way, Nick lost $500 on the leveraged position instead of the $25 he would have lost on spot.
Below is an example of how Nick’s account balance may change when he trades BTC with a x20 margin. This example is made for illustrative purposes and ignores trade fees and premiums.
The Pros And Cons Of Margin Trading
After reading everything said above, you will probably already have formed a sufficiently realistic picture of the risks involved in margin trading.
The main advantage that margin trading grants is the provision of liquidity, which enables traders to not have to engage in trade with assets of interest to them at that moment. The availability of liquidity allows traders to buy assets and trade, just like any other loan in the world. Margin trading allows traders to generate returns without being hindered by the lack of available liquidity. The returns involved may be very high, all depending on the trader’s skills, strategy, approach, level of caution, and market conditions.
The risks, however, are also just as high. The main risk resides in the potential price drop of assets bought on margin. If the asset loses its value, the trader will be indebted and will suffer losses, since they may not have enough funds or collateral to pay for the margin. Risk is inherent in debt, especially when the debt is used to purchase assets.
With cryptocurrencies, the risk factor is exacerbated by their volatility. True, volatility can be bipolar and can also generate returns, but the risk remains.
Fear Profits Man Nothing
All leveraged instruments, including Xena Listed Perpetuals, can be traded with x1 leverage, constituting a more familiar and less risky instrument. Xena Exchange provides its users with the ability to trade derivatives contracts with a x1 leverage — in other words, no leverage at all. The trader is not required to borrow funds and can resort to the resources at their disposal to engage in trade.
By trading at x1 leverage, traders can turn to the newly launched series of derivatives contracts available on Xena Exchange and take advantage of their price dynamics without worrying about margins, only making returns or incurring losses on their cash balances. Such an approach to trading negates additional risks and provides traders with peace of mind.
The Beating Heart Of Trade
Every single trading and exchange platform in the world operates on the basis of an engine. Xena Exchange has launched a spot trading engine along with a derivative one, which makes it one of the few exchanges in the world with two engines. The exchange is the first in the world with a leveraged, cryptocurrency-settled derivative contract on the GRAM token, which was launched on February 27. This is a unique opportunity for market participants to take advantage of trading this highly coveted token for the first time ever on the market.
Derivatives contracts trading on Xena Exchange with x1–x100 leverage is open to anyone who wishes to participate in the cryptocurrency trading market. The exchange offers a vast variety of options and functions that both beginner and advanced traders can turn to. The advanced functionality and convenience of the interface offered by Xena Exchange is a monumental step forward in trading on the new market and offers all traders the necessary tools to generate returns while minimizing risks.
Looking Back
After reading the brief explanation on margin trading with its main ins and outs, you will probably have understood that some terms on the trading market are not as scary as they are made out to be. In fact, as with most financial terms, operations that can be conducted even between friends are common practice in banks and can be carried over to the trading market and acquire new aspects, applications, or monikers.
The main factors underlying margin trading are opportunity and risk. Both walk hand in hand down the path of market charts and graphs. The opportunity to buy assets of interest using loans is what margins are all about. They give liquidity under the obligation to pay it back. The downside is the uncertainty, as assets purchased on margin can fall in price and turn the expectation of returns into losses, thus forcing the trader to pay back the margin from their own pocket.
Whatever strategy the trader resorts to on the market, the right tools are there on Xena Exchange and allow for ample opportunities to generate returns when combined with sound approaches. And whatever the approach, we hope it’s profitable for our users!
The original story was published on the official Xena Exchange blog
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Remember, that trading cryptocurrencies involves significant risks. You may suffer considerable losses and potentially lose more than you have invested. Please don’t use any of the trading options if you do not understand these risks.
