Leverage is the use of borrowed money to increase the potential return of an investment. In the context of trading, leverage allows traders to open positions that are larger than the amount of capital they have on hand.
For example, if a trader has $10,000 of capital and they use leverage to open a $100,000 position, they are using 10:1 leverage. This means that for every $1 of their own capital, they are using $10 of borrowed money.
Using leverage can potentially increase the return on an investment, as it allows traders to take larger positions with a smaller amount of capital. However, it also increases the risk, as the potential loss on the trade is also magnified.
It's important for traders to carefully consider the level of leverage they are using and to understand the risks involved. Excessive leverage can lead to large losses if the trade moves against the trader, and it can even result in a "margin call" where the broker demands that the trader add more capital to their account or close out their positions to reduce their risk.
Overall, leverage can be a useful tool for traders, but it's important to use it wisely and to understand the risks involved.
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