Crypto VS Forex

Leverage in the world of trading is one of the most powerful tools. It offers the ability to control a substantial market position with just a fraction of the required capital, acting as the gateway to amplified profits and, consequently, amplified risks. For traders of futures and Contracts for Difference (CFDs), leverage is not merely a choice but an essential requirement. It is the fundamental force that makes these instruments accessible and viable, transforming the fractional price movements of forex into meaningful trading opportunities. Leverage is the major force that is responsible for the emergence of these two trading methods; the definition, application, and very environment in which it operates differ profoundly depending on the market. This article provides an in-depth examination of these critical distinctions, specifically dissecting the notion of leverage as it pertains to the volatile world of cryptocurrency futures versus the established landscape of forex CFDs.

Trades in cryptocurrency futures

 

The use of leverage in cryptocurrency is similar to playing Russian roulette; it could have unintended consequences. When a trader wishes to utilize leverage, they are often doing it for the sole purpose of increasing their earnings. However, the use of leverage in cryptocurrency trading actually raises your risk to a level that is significantly higher than the typical risks associated with trading. You can achieve a one hundred percent rise in your balance in cryptocurrency by simply purchasing a coin. However, individuals who use leverage are looking for quick profits, which has led to an increase in their risks. This is especially true when their exchange gives them an isolated margin for their futures trading. In the event that they are subject to a margin call and stop out (liquidation), this indicates that the initial fund that they employ for their position will be targeted and will be completely wiped away. When a trader chooses the 5x leverage for their long trades, for example, it means that if the price increases by 20%, they will gain 100% profit based on their initial margin, and if the price decreases by 20%, they will lose their initial margin rather than their entire balance. Gain and profit measurements are then calculated based on the percentage of change in price. But here's the thing: humans, by their very nature, are obsessed with speed and big numbers, and as a result, they will strive for higher leverages in order to get faster and larger profits. When it comes to cryptocurrency trading, 100x is considered insane, and if prices shift even 1%, which is something that happens rather frequently in a market that is volatile for cryptocurrencies, they will be flipped in an instant.

Why is 100:1 leverage considered normal, and sometimes low, in the foreign exchange market and contracts for difference (CFDs), while 500:1 leverage is viewed as ideal? You can even find some brokers who provide leverages of up to three thousand to one.

Forex and CFD trading

 

Utilizing leverage is essential in contracts for difference (CFDs) and futures contracts. Retail traders use leverage to boost profits, but that's not the only reason. The volume of contracts for difference (CFDs) is calculated in lots, with the size of each lot being decided by the prior contract size for the currency pair, commodities, or indices. 1 lot in gold is equivalent to 100 ounces of 24k gold, or in the EURUSD pair, 1 lot is equivalent to 100,000 units of the base currency (EUR in this case). This means that traders buy 100,000 EUR, and if the exchange rate is 1.10000, they have to pay $110,000 USD in order to do so. Because no retail trader is willing to pay such a large amount, they engage in leverage, and with a leverage ratio of 100:1, they have to pay $1,100 USD in margin for 1 lot in position sizing.

However, does it make a difference how much of a margin they have? not one

Given that the lot and the PIP are the most important criteria, leverage in CFDs does not have any direct impact on the profits and losses of traders. In the case of gold trade, for example, with a trading volume of 1 lot and a price movement of 1 PIP, they will observe a fluctuation of ±10 dollars in their floating profit and loss; this fluctuation is not related to margin or leverage.

Additionally, the distinction is that they are able to continue losing money until their equity is equal to the amount of margin that they have used; this is the point at which the margin call will take place. Furthermore, when that percentage falls to twenty percent or thirty percent, they will be subject to stop-out, which indicates that their position will be closed automatically in order to prevent them from falling into a negative balance.

Therefore, the use of larger leverage brings about a reduction in the required margin for their trades.

By definition, equity is equivalent to the balance plus or minus the floating profit and loss, which is not related to leverage in any way.

Margin level is equal to: Equity Margin. Thus, as you can see, our used margin will decrease as a result of the larger leverage. This indicates that traders' margin levels will be higher, and as a result, they will receive margin calls and stop out at a later time.

This indicates that if a trader has an account with a leverage ratio of 100:1 and has received a margin call, they will need to make a deposit in order to increase their equity. Due to their higher leverage ratio, the broker lends them money, increasing the margin denominator. However, this strategy has a drawback in that it significantly reduces the amount of time you have to deposit funds into your account, as even a slight movement in price can trigger a stop-out level.

Let's take the EURUSD example and modify the leverage from 100:1 to 500:1. This will result in the needed margin being reduced to $220 USD, yet at the same time the margin level will grow. However, the equity and floating P/L are the same, which means that you will receive a margin call and stop out at a later time; however, you will have a significantly shorter amount of time to deposit any funds into your account.

 

Crypto vs. Forex

 

Leverage in CFDs is not nearly as detrimental when compared to cryptocurrency. Furthermore, it is more beneficial for traders because it comes with a significantly lower risk associated with it.

In the event that traders manage their position sizing and volume in accordance with your stop loss P/L, then all of this is accurate. With a leverage ratio of 100:1, I was able to open a position with two lots, and now with a leverage ratio of 500:1, I am able to open a trade with ten lots. This indicates that the trades will be liquidated promptly, as each point in price movement will impact the trading time five times more, which is not a prudent strategy. If a trader does not comply with the limit of 3% risk per trade, which means that if their stop loss is activated, they will only lose 3% of their equity, then it is safe for them to play with higher leverage.  However, attempting to increase position size by increasing leverage is bound to fail.

However, in the case of cryptocurrency, as was indicated before, you are unable to comply with the size for this matter. Additionally, you are required to adjust position leverage one by one based on your margin and stop loss, which significantly complicates the situation.