Forex trading has become increasingly popular over the years, and with it comes the need to understand the various concepts that are involved. One of these concepts is free margin, which is an essential aspect of forex trading. In this article, we will be discussing what free margin is and how it works in the forex market.
Free margin is the amount of money that is available in a trader’s account to open new trades. It is the difference between the equity and the used margin. Equity refers to the total value of a trader’s account, including profits and losses, while the used margin is the amount of money that is currently being used to keep open trades. Free margin, therefore, represents the amount of money that is available for a trader to use in opening new positions.
To understand how free margin works, it is important to first understand the concept of margin. Margin is the amount of money that a trader needs to deposit in their trading account to open and maintain a trading position. It is essentially a collateral that the broker requires to cover any potential losses that may arise from the trade. The margin requirement varies depending on the broker and the currency pair being traded.
Suppose a trader wants to open a position in the EUR/USD currency pair, and the margin requirement is 1%. This means that the trader needs to deposit 1% of the trade’s total value as collateral. For instance, if the trader wants to open a position worth $100,000, the margin required would be $1,000 (1% of $100,000). This $1,000 is the used margin.
Now, let’s assume that the trader’s account balance is $10,000, and they have already used $1,000 as margin for the EUR/USD position. The trader’s equity would be $9,000 ($10,000 account balance – $1,000 used margin). The free margin, in this case, would be $8,000 ($9,000 equity – $1,000 used margin). This $8,000 is the amount of money that the trader can use to open new positions or to increase the size of their existing positions.
It is important to note that as the trader’s open positions start to accumulate losses, the equity in their account will decrease. If the equity drops below the used margin, the trader will receive a margin call from their broker, requiring them to deposit more money into their account to cover the losses. If the trader fails to deposit more funds, the broker may close their open positions to prevent further losses.
In conclusion, free margin is an important concept in forex trading, as it represents the amount of money that a trader can use to open new positions or increase the size of their existing positions. It is calculated by subtracting the used margin from the equity in a trader’s account. Traders should always keep an eye on their free margin to ensure that they have enough funds to cover potential losses and avoid receiving a margin call from their broker.
