Introduction
Margin in forex trading is the amount of money a person must have to open a forex trading account and maintain a position while trading in forex. It is used to determine the amount of maximum leverage that a trader can use.
In the forex market, traders borrow money from the forex broker to open a position larger than their trading capital. The borrowed money facility is popularly known as leverage in forex.
However, to get that leverage, you need to maintain a small percentage of the trade position in your account. Confused? Here is a forex margin example:
Suppose your broker is offering a leverage of 1:100. You want to trade a mini lot position consisting of 10,000 units for the EUR/USD pair.
In order to do so, you at least have $100 (1% of $10000) in your account. Now that you know margin, let us understand what a free margin is in forex.
What is Free Margin in Forex?
Free margin in forex trading is the difference between the equity (the sum of account balance and unrealized profit or loss) and the used margin.
The free margin in your forex trading account represents the amount of money available for opening new trades in forex. It can be defined as free capital to open a new forex trading position.
Free margin in forex is also called “usable margin” because, as the name indicates, it refers to the amount that can be used for further in financial trading.
A quick glance
Margin is the amount of money a person must have to open a trade account and maintain a position while trading in forex.
Free margin is the difference between the equity (the sum of account balance and unrealized profit or loss) and the used margin. It is the amount that can be used for further trading.
Suppose you have a forex trading account with a $2000 balance and a 5% CFD margin requirement. You want to open a position worth $10000.
In this case, your account balance is $2000, and Margin requirement =$500 (5% of $10000)
Free Margin Calculation = (Equity – Used Margin)
$2000-$500= $1500
If your free margin declines to zero, You’ll receive a margin call with no margin left to protect any possible losses from open forex positions.
If your open position is profitable, your equity will grow, giving you an additional free margin. And you can also add money to your trading account.
The margin level is a percentage of the margin available to maintain open positions.
When the margin level of a trader falls below a certain level, he receives a call from a broker. This call is known as a margin call.
Above 100% is thought to be beneficial. If your trading account decreases below that level, you add your money to your deposit account.
What Impacts Free Margin in Forex?
Changes in profit and losses from your trade position have a direct impact on the free margin. Here is how:
- When your open positions are profitable, it increases your free margin.
- When your open positions are losing, it decreases your free margin.
How to Calculate Free Margin in Forex
The formula for calculating free margin is simple. You just need to deduct the equity from the used margin.
Formula: Equity - Used Margin
Confused? Let us understand how to calculate free margin with an example.
Suppose you have a forex trading account with a $2000 balance and a 5% CFD margin requirement. You want to open a position worth $10000.
In this case,
Account balance = $2000
Margin requirement = $500 (5% of $10000)
Free Margin Calculation = (Equity – Used Margin)
$2000 – $500 = $1500
If You Have an Unrealized Profit of $50:
Now, suppose your open position has an unrealized profit of $50. So it will lead to the following changes:
- Account Balance: $2000 (No impact)
- Used Margin = $500 (No Impact)
- Free Margin = $1550 (Unrealized Profit got added)
Equity = $2050 (Unrealized Profit got added)
If You Have an Unrealized Loss of $50:
Now, suppose your open position has an unrealized loss of $50. So it will lead to the following changes:
- Account Balance: $2000 (No impact)
- Used Margin = $500 (No Impact)
- Free Margin = $1450 (Deduction of Unrealized Loss)
- Equity = $1950 (Deduction of Unrealized Loss)
The equity balance and utilization margin do not change. Yet the forex-free margin and the equity both grow or fall to reflect the unrealized profit or loss of the open position.
What Happens When the Free Margin Hits Zero?
Free margin, also known as usable margin, fights negative price fluctuations in your available trades and opens new leveraged trades. It grows with profitable positions and drops with losing positions.
When the trader’s free margin becomes zero, the trader cannot open another forex trading position. So, to continue trading in forex, it is important to maintain the amount of usable margin.
If your free margin declines to zero, you’ll receive a margin call with no margin left to protect any possible losses from open forex positions.
How to increase Free Margin in Forex
Make Profitable Trade Decisions: If your open position is profitable, your equity will grow, giving you an additional free margin. And you can also add money to your trading account.
Watch Leverage: Leverage is an element that affects your account balance and the free margin significantly. Trading with high and unrealistic leverage will require you to maintain more margin per trade. And if you suffer a loss in a high-margin position, then it will reduce your free margin and can even make it zero.
Avoid Overtrading: Keeping many traders open at a time will reduce your free margin amount. Focus on quality instead of quantity, and make informed trade decisions.
Monitor your Position: Watch your open trade position and keep track of unrealized profit or loss. The major change in free margin is due to profit or loss from the open position.
Keep Broker Notification On: Your broker will alert you every time there is a significant change in margin or free margin. So keep account trade alerts on.
Have a Strict Exit Plan: Most traders adjust their risk-to-reward ratio in the hope of earning more or turning the losses into profit. That’s when your loss amount increases, reducing your free margin.
Margin vs Used Margin vs Free Margin: Comparison Chart
| Term | Margin | Used Margin | Free Margin |
|---|---|---|---|
| Definition | A required amount to maintain in your account to continue trading. | The amount that has already been used to open positions. | The amount available to open new positions. |
| Calculation | Calculated by dividing the trade size by the leverage ratio. | Calculated by subtracting free margin from equity. | Calculated by subtracting used margin from equity. |
| Impact | When the required margin falls, your existing position will be closed. | When used margin increases, your free margin falls. | When the free margin becomes zero, you cannot open new positions. |
Terms Important for Understanding Free Margin
Margin Level in Forex:
The margin level is a percentage of the margin available to maintain open positions. It indicates the risk level in forex trading.
It is calculated by dividing equity by used margin and multiplying by 100.
Margin Level Example:
If Equity = 15000 and Margin = 500
Margin Level = (15000 / 500) x 100 = 300%
What is a Margin Call?
When the margin level in forex falls below a certain threshold, the trader receives a margin call from the broker. The broker may request additional funds or ask to close out positions to prevent negative balance.
Bottom Line
You have now understood what is free margin in forex and its utility in trading. Remember, a trader can place a forex trade only if they have a free margin balance.
If free margin falls too low, you may receive a margin call in forex. So, it’s important to manage your forex account balance, avoid overtrading, and monitor margin levels.
Free margin is crucial for forex risk management, and maintaining a healthy margin level can protect you from account blowouts.
For practical knowledge, reach out to attend our exclusive forex trading webinars with industry experts.
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