Forex trading is not straightforward. For beginners, it is easy to assume that it is about buying and selling assets, which is true, at least to some extent. However, there are numerous ways of going about this, and as it is well known, you can quickly lose a lot of money within a short time. One of the most common questions that people pose about forex trading is whether you can lose more than you invest. Well, this is possible, depending on your investment path and a few scenarios that might put you in such a predicament.
How Does Margin Work?
The concept of margin in forex trading allows just about any investor to trade. It lets them control more than 100 times the amount of money deposited in their account.
While it signifies a massive potential for reaping great rewards, it is a double-edged sword, and you can lose a lot of money. Margin allows you to borrow some money from your online broker, but is there a possibility of having a negative balance?
Can you end up owing a huge amount of money to your forex broker? How can you protect yourself from such a situation?
When trading with margin accounts, the term leverage comes into the equation. Leverage shows the amount borrowed from the broker, and it is expressed as a ratio say, 1:50 or 1: 500.
The level of leverage available to you depends on a broker and your trading position.
For instance, you can open a 1% margin account and deposit $1,000. Leverage 1:100 gives you the chance to control $100,000 instead of $1000.
What Are the Risks?
A margin account has a huge chance of significant profits. However, your account can be easily wiped off within seconds.
For the scenario explained above (with leverage 1:100), a slight currency move implies that every penny you have cost you $100. Here all your winnings and losses are multiplied by the leverage factor, and you can lose more money than you invested.
Another risk involved with margin accounts is that forex brokers can close the trade when the losses are equal to the value of your account balance. Here, you won’t only lose the balance but any chance to make a profit in case the trade changes direction and starts moving up.
Can You Lose More than You Invest in Forex Trading?
When venturing into forex trading, never trade an amount you cannot afford to lose. This is such an unpredictable area, and if you commit all your money, you risk running broke.
Margin trading is run differently depending on the forex broker you choose. Ensure that you read the terms and conditions regarding your specific one before agreeing to them.
Some won’t hold you responsible for a negative balance, and here, the worst-case scenario is where you lose the entire deposited amount. Some brokers will hold you accountable for negative balances and require you to reimburse the amount.
In such an instance, you need to be careful when trading with margin since you might find yourself with no money and a negative balance that should be paid to the broker.
How Can You Avoid Negative Account Balances?
You can avoid cases where you lose more than you invest, thanks to a few protection policies that can be implemented from the broker’s side or your side. Luckily, brokers are wary of losing their money through margin trading, and it is within their interests to implement a policy that stops trades when the amount lost is equal to the deposited sum.
A margin call is one of the tools used by forex brokers. The broker gives you the notice to deposit more money or it closes all your positions before the loss becomes higher than the initial balance.
Stop-loss order is another policy that automatically closes your trading position after the price reaches the point you have set.
However, even the stop-loss order is not the absolute protection of your account. Just guaranteed stop-losses and option purchases provide full protection against the negative balance on your account.
However, the best way not to lose more than you invest is to understand margin and leverage. Just because your broker gives you 1:500 leverage does not mean that you should go for it.
Leverage increases the potential for huge losses as a percentage of your total sum deposited. If you are new in forex trading, consider using small leverage such as 1:50 if you have to do it, as you learn how to do it and become good at it.
It will go a long way in protecting you from wiping your account clean and give you a soft landing when you start getting losses.
Beginners in forex trading get excited by the opportunity offered by margin trading, and rightly so since it allows one to make huge profits even if with a small account deposit. However, forex is no easy thing, and there is a potential for losing huge amounts and also getting to a point where you owe the broker some money.
In some situations, you can lose more than you invest in forex trading. When you have a negative account, you will have to pay the broker first before you can deposit any money.
This is such a terrible situation, and it will discourage any forex trading beginner from trading again. Always tame your excitement as, for every potential of making a profit in forex trading, there is an equal and opposite potential of losing money.
Start small with a micro account and some little money that will help you to learn the tricks before you become seasoned enough to use margin to control huge amounts.