Leverage Stock Trading Guide
Leverage is a powerful tool that can help traders amplify their returns in the stock market. By using borrowed money to trade stocks, leverage allows traders to control a larger position than they would be able to with their own capital.
While leverage can be a great way to boost your profits, it also comes with some risks. When used improperly, leverage can lead to large losses. As such, it’s important to understand how it works and use proper risk management for leverage.
This guide will explain what stock leverage is and how it works in trading the markets. We’ll also go over some risks associated with leveraged contracts, how ratios are explained, where to trade stocks with leverage, and at the end, I’ve added a part on how to get started if you are ready to take the next step.
While it’s difficult to find the best leverage for a $100 account I will give you some handy tips throughout the guide. I also recommend optimizing for your top leverage trading strategy to keep up with the volatility and profit from your increased buying power.
Stock leverage explained
Stock leverage is the use of borrowed money to finance parts of the purchase of stocks. When you buy stocks with leverage, you’re essentially using funds from your broker to finance your trade. This can be done through a margin account with a broker, or through the use of derivatives such as options or futures contracts.
It is important to separate margin and leverage. They are closely related and one would not be able to exist without the other. Below is a quick explanation to clear out any of your confusion.
- Margin = Your own money
- Leverage = Borrowed money that your broker provides
Leverage allows you to control a larger number of stocks than you could if you were buying them outright.
For example, let’s say you have $20,000 to invest in Company X. If Company X stock is trading at $100 per share, you can buy 200 shares. However, if you use 10:1 leverage, you can control 2,000 shares for the same $20,000 investment.
That results in a total purchase of $200.000 worth of the stock. Should the market later gain 10% over a couple of months after some positive news, your net income would be $20.000. That is a 100% ROI which would be close to impossible if trading without leverage unless you are extremely lucky with your trade.
The difference between spot vs leverage trading in stocks is the borrowed money you receive from your broker when providing margin capital.
To further understand the concept of leverage, see this guide:
Is it possible to trade stocks with leverage?
The simple answer to this question is yes, you can use leverage in stock trading. Many investors are under the impression that stock trading is a zero-sum game. That is, for every winner there must be a loser. This simply isn’t the case. It is possible to trade stocks using leverage, which can give you the potential to make more profit than if you were trading without leverage.
The easiest way to access borrowed funds is to trade one of these contracts:
- CFD – CFD stands for “Contract For Difference”. CFDs are traded with leverage, meaning that traders can control large positions with a relatively small amount of capital. This makes CFDs an attractive option for leverage traders who are looking to take advantage of small price movements in the markets.
- Futures – Investing in futures contracts can be a great way to leverage your stock trading. When you buy a futures contract, you are essentially buying a contract to buy or sell an asset at a certain price on a certain date in the future, hence the name. If the price of the underlying asset moves in the direction you predicted, you can make a profit.
- Derivatives – Derivatives contracts are a name for a group of different investment vehicles with leverage. The most commonly used are futures and options which both provide leveraged trading in stocks with slightly different variations.
- Options – One way to use leverage when trading stocks is to buy call options. A call option gives you the right, but not the obligation, to buy shares of a stock at a certain price within a certain timeframe. If the stock price rises above the strike price of the call option, you can exercise your option and buy the shares at the strike price. This will allow you to buy shares at a lower price than they are currently trading at and sell them for a profit.
- ETFs – Leverage contracts for ETFs are a great way to get exposure to the underlying asset without having to put up the full amount of cash. For example, if you wanted to buy shares of an ETF that tracked the S&P 500 index, you could use a leveraged contract that only required you to put up a fraction of the cash needed to purchase the underlying shares.
Another way to use leverage when trading stocks is to short-sell. To short sell, you borrow shares of a stock and sell it with a market order when prices fall. When the price has fallen below your entry price you buy back your shares for a profit and return them to the broker. All of this happens automatically but it is one of the perks of using leveraged stock brokers.
How does leverage work in stock trading?
Leverage in stock trading works by allowing traders to control more money than they would be able to normally, amplifying both gains and losses.
When you buy stocks without leverage, you are essentially buying with your own money. When you use leverage, you are effectively borrowing money from a broker to purchase additional shares. You have to pay back leverage in stocks after closing the trade.
This technique can be useful if used correctly, as it allows traders to control a larger number of shares than they could afford otherwise without putting up more of their own cash.
Stock trading is typically seen as a long-term investment vehicle but during the past years, day trading stocks with leverage have become increasingly more popular. Using leverage in investing can work but at a lower ratio of 1:5 or less.
It’s important to remember that leverage also works the other way around and can increase losses as well. If a stock price falls by 10%, a trader who is long without leverage will lose 10%. However, a trader who is long with a leverage of 1:2 will lose 20%. Therefore, it’s important to use it wisely and always be aware of the risks involved. Our guide on leveraged trading tips is a great read if you want to up your skills further.
Losing more money than invested with leverage stock trading is also possible but only when your broker doesn’t support the proper risk management tools such as a stop loss or negative balance protection.
How to trade stocks with leverage
Leverage is essentially using borrowed money to increase your potential return on investment. When you trade stocks with leverage, you’re essentially borrowing money from your broker in order to buy more shares than you would be able to otherwise. This can be a great way to boost your profits potential, but it’s important to remember that it also comes with increased risk.
Some basic strategies
- Don’t overleverage – This is a common error among beginners. At first, it seems like a walk in the park and before you know it you are testing ratios of over 1:100. This is difficult and risky. Begin slowly and ramp up the buying power when you feel comfortable with the risk.
- Trade stocks you know well – It goes without saying that you should always pick your A game when trading leveraged stock contracts. Choose your most profitable stocks and stick to them. This is a smart choice considering that you need to know the behavior of the price action.
- Calculate your leverage before entry – Learning how to calculate your margin and which ratio suits you best is essential. Use our stock leverage calculator to find out the best ratio and also how much margin capital is required to open your futures, derivatives, or CFD trade.
- Select the right contract – There are so many different options to choose from when it comes to tradable instruments. Some offer more leverage and more risk such as futures contracts while others offer less power and more safety. Options contracts are preferred when you want to control your risk.
- Increase leverage on good trades – Here is a strategy that many professional traders use. Whenever you spot your favorite setup and the market gives you a good entry, increase the leverage to squeeze out the profits and maximize your gains. Keep in mind though, only use this strategy on your big winners, it won’t work on mediocre trades. High leverage stock brokers are very flexible and many of them let you set your ratios when you have an open position.
- Spread out your risk – With leverage you have the advantage of spreading out your margin capital over several positions and swing trade different stocks. This way you effectively diversify even a highly leveraged stock account.
When you use leverage, your broker will require you to put down a margin. This is basically a good-faith deposit that shows you’re serious about trading and that you have the funds available to cover your losses if things go wrong. The amount of margin required will vary depending on your broker and the level of leverage you’re using, but it’s typically around 10-20%.
What is stock leverage ratio?
When trading stocks, one important metric to keep in mind is the leverage ratio. This is simply the ratio of the amount of money that you’re borrowing from your broker compared to how much of your own money you put down. For example, if you’re trading with a 2:1 leverage ratio, then for every $1 that you have in your account, you can trade up to $2 worth of stock.
Why is this important? Because the higher the leverage ratio, the greater the potential risk and reward. With a 1:100 leverage ratio, you can make 100 times bigger profits (or losses) on each trade.
To find our your risk reward ratio, use our risk reward ratio calculator.
Below is an example of how stock leverage ratios could affect your position. In this example, you will see how much funds you would be able to control if you deposited $200, $500, $1200, or $2500. The leverage ratios used are 1:5, 1:15, 1:25, and 1:100.
The table shows you how powerful it can be to trade stocks with borrowed money. A small deposit of $500 can easily control $50.000 when used with a high ratio.
Beware though – too much leverage can be a recipe for disaster and high leverage trading is seemingly risky. However, once you learn how to control your own ratio, it can generate windfall profits. Most beginners should practice on lower ratios until they feel comfortable increasing the risk.
A great way to protect yourself is to use a stop-loss order when trading with leverage. A stop-loss order is an instruction to sell a security when it reaches a certain price – which will help to limit your losses if the market goes against you.
Depending on how good your high leverage trading strategy is you could either end up making a ton of money or get liquidated after a few tries.
Leverage vs margin explained
When it comes to trading stocks, there are two key concepts that you need to understand in order to make the most of your investment:
In a nutshell, leverage refers to the use of debt or credit to finance the purchase of a stock, while margin is the amount of money required, or the initial investment, used to fund the leveraged investment.
Margin: When you trade stocks, you do so with borrowed money. The amount of money you need to borrow is called the margin. Margin is calculated as a percentage of the total value of your trade. So, if you’re buying $1,000 worth of stock and the margin is 10%, you’ll need to maintain $100 in your account to keep the trade open.
Leverage: Leverage is simply the act of using borrowed money to increase your potential return on investment. When you’re leveraging a stock, a small move in the stock price can result in a large profit (or loss). Let’s say you buy $1,000 worth of stock with 10x leverage. If the stock price goes up by 1%, your investment will be worth $1,100. But if the stock price falls by 1%, your investment will be worth $900.
The difference between margin vs leverage trading is slim. It all depends on how you want to look at it. Some stock trading platforms choose one name while others choose the other.
Stock leverage examples
When buying stocks, traders can use leverage to borrow money from a broker to purchase more shares than they could otherwise afford. This allows them to purchase more shares and potentially make more money when the stock price goes up.
Below are some examples that explain how the value of your initial deposit changes with the use of borrowed cash.
If a trader has $1,000 and borrows $9,000 to buy 10,000 shares of a stock that costs $10 per share, the trader would have made a 100% return on their investment if the stock price went up to $20 per share.
Suppose an investor has $10,000 to invest in a particular stock. If that stock is trading at $100 per share, the investor can only purchase 100 shares. However, if the investor is able to find a broker that offers 10x leverage, he or she can control 1,000 shares for the same $10,000 investment.
If an investor has $5,000 cash and wants to use leverage to purchase $10,000 worth of stock, they would borrow $5,000 from their broker. If the stock price goes up by 10%, the investor’s position is now worth $11,000 (10% of $110,000).
The investor has made a 100% return on their investment. However, if the stock price falls by 10%, the value of the position will drop to $9,500. The investor has lost 50% of their investment.
What is the maximum leverage in stocks?
There are a number of factors that come into play when determining the maximum amount of leverage that can be used in stock trading. The most important factor is the margin requirements set by the exchanges on which the stocks are traded and the maximum leverage ratio available.
These margin requirements vary depending on the type of stock being traded, with some stocks having higher requirements than others. Other factors that can affect the amount of leverage that can be used include the broker’s rules and the trader’s own risk tolerance.
The maximum leverage for stock trades is very different but it is not uncommon to see a ratio of 1:200 for traditional brokerages. This means that for every $1 you have in your account, you can trade up to $200 worth of stock. So if you have a $10,000 account, you could trade up to $2,000,000 worth of stock.
Where can you trade leveraged stocks?
There are a number of places where you can trade stocks with leverage. The most common is through a broker that offers margin accounts. This type of account allows you to borrow money from the broker to purchase stock. The borrowed funds are then used as collateral for the loan.
Another way to trade stocks with leverage is through the use of derivatives. Futures contracts and options are two examples of derivatives that can be used to provide leverage when trading stocks. These instruments can be used to control a larger number of shares than would be possible with outright stock purchases.
Finally, CFD brokers offer special accounts that allow for leveraged stock trading. These accounts typically have lower margin requirements than standard brokerage accounts but offer the ability to trade on margin. This is one of the safest options as long as you choose a stockbroker with government regulation.
Below is our list of the top high leverage stock brokers for 2022:
When choosing a platform it is important to consider a few things.
First, does the brokerage offer negative balance protection? Secondly, what is the fee structure and how much will you pay? Thirdly, can you trust the broker, and is it regulated? Finally, every good broker should offer a state-of-the-art trading interface.
There are many benefits of using stock leverage to trade stocks. One of the main benefits is that it allows you to trade with a much larger amount of money than you would be able to if you were trading without leverage. This can allow you to make a lot more money in the stock market than you would otherwise be able to.
1. You can trade with less capital
With stock leverage, you can trade with less capital than if you were to trade without leverage. This is because you are only required to put up a small percentage of the total value of the trade as collateral.
2. You can amplify your profits
If the stock price moves in the direction you anticipated, your profits will be amplified by the factor of leverage. For example, if you had $10,000 and traded with 2:1 leverage, a 1% move in the stock would result in a 2% return on your investment.
3. You can use leverage to hedge your portfolio
If you are concerned about a potential decline in the overall market, you can use stock leverage to hedge your portfolio. By selling stocks short, you can offset any losses in your other investments.
4. You can take advantage of volatile markets
Volatile markets provide opportunities for traders to make quick profits. By using stock leverage, you can increase your position size and take advantage of small price movements.
Though stock leverage can provide investors with the potential to make significant profits, there are also a number of drawbacks that should be considered before taking on leverage.
There are a number of potential drawbacks to using stock leverage, including the following:
1. You may end up paying more in interest than you would have without leverage
Depending on what leverage stock broker you choose you might end up paying high management fees to keep your positions open overnight. The management fee is an interest payment that the broker charges you, the same way a bank charges you interest on a mortgage. Management fees are one of the three main ways how brokers make money on leverage.
2. If the stock price falls, you may end up owing more money than you would have without leverage
For those platforms that don’t offer negative balance protection you might end up owing money to the broker and if you are unlucky the total amount owed can be well in the thousands.
3. You may be forced to sell your stock at a loss if the price falls too far
This is a common problem among novice traders. Many beginners overleveraged at first only to be forced to sell their position early to stop losses. Highly leveraged stock contracts will swing your p&l ratio up and down in a wild fashion. Make sure you start out small.
4. You may be subject to margin calls if the value of your collateral falls
Should your leveraged stock fall too far without your intervening your broker might send you a margin call telling you that your collateral is close to 0%. Gauge the situation and see if you can do anything to save the position such as hedge it with a short contract. If this is not an option, take the loss and move on.
How to calculate leverage in stocks
Leverage is often cited as one of the key advantages of trading stocks. But what exactly is it? And how do you calculate it?
Here’s a quick guide to calculating leverage in stocks.
Leverage is simply the use of borrowed money to increase your investment. So, for example, if you have $100 to invest in a stock, you could borrow $200 from a broker and buy $300 worth of shares. The extra $200 is your leverage.
The key benefit of leverage is that it allows you to increase your investment without actually having to put up any more of your own money. That can be a great advantage if you’re confident about the stock you’re buying and believe it will go up in value.
Of course, there is a downside to leverage as well. If the stock price goes down instead of up, you’ll end up losing money on your investment. And if the stock price falls far enough, you could even end up owing money to your broker.
So it’s important to use leverage carefully and only when you’re confident about the stock price direction.To calculate leverage, simply divide the total value of your investment by the amount of money you have.
You could also take the total value of your position and divide it by the amount of money you have invested.
For example, let’s say you have $10,000 to invest and you’re looking at a stock that’s trading at $100 per share. You could buy 100 shares outright, or you could use leverage and only put down $1,000 to buy 10 shares.
In this case, your leverage would be 10x.
Now, let’s say the stock goes up 10% to $110 per share. If you bought the shares outright, your profit would be $1,000 (10% of $10,000). But because you’re leveraged 10:1, your profit with just $1,000 invested would be $10,000 (10% of $100,000)!
Of course, the same rules apply in reverse if the stock falls in price.
Should you use leverage in stocks?
There is no simple answer to this question, as there are a number of factors to consider before making the decision to use leverage in stock trading. However, in general, using leverage can help you to increase your potential profits – but it also comes with increased risk. It’s important to weigh up the pros and cons before making a decision on whether or not to use leverage.
There are a few things to consider before using leverage though. The first is that it can magnify both your profits and your losses. So if the stock goes down 10%, you not only lose 10% of your investment, but you also owe the broker the money that you borrowed. Our guide on how leverage affects losses in stocks will further explain this topic.
The second thing to consider is that most brokers will require you to put up collateral to use the leveraged, make sure that you have enough money set aside, and don’t use your last savings. And finally, there may be leveraged stock fees that could eat up your margin capital if you are not careful in the selection process.
So should you use leverage when trading stocks? That is completely up to you as an individual trader and after reading this guide you should be more knowledgeable on the matter.
If you’re comfortable with the risks and have the collateral to cover any potential losses, then leveraging your account can be a great resource to increase your profits.
How to get started
If you’re new to the world of stock trading, the process can seem daunting. Leverage is here to help with our complete guide on how to get started. Follow these simple steps and you’ll be up and trading in no time.
- Pick a broker: Choosing a reputable broker is essential. There are plenty of shady actors so I would recommend that you spend a good amount of time reading reviews and also testing the platform on a demo account first. Do your research to find one that best suits your needs.
- Open an account: Once you’ve selected a broker, you’ll need to open an account with them. This usually just requires some basic personal information and may require a minimum deposit. Use your personal email account and remember to keep the password safe.
- Fund your account: To start trading stocks, you’ll need to deposit money into your account. This can be done via bank transfer or by using a credit or debit card. Most of the popular brokers offer minimum deposits from $10 and up to let beginners start without investing a lot of money.
- Choose your stocks: Now it’s time to start picking the stocks you want to trade. Consider factors like the company’s financial stability, recent performance, and overall market conditions before making your decision. This is also when your technical analysis and fundamental analysis skills come in place.
- Place your order: Once you’ve decided on which stocks to buy or sell, it’s time to place your order with your broker. Be sure to specify the number of shares and price you want before confirming the order. Before entry, double-check your ratio, your entry price, and your stop loss. The most common order type is the market order. It lets you buy or sell at market price for instant execution. Should you instead prefer to place an order at a different price you can do so with a limit order.
Frequently asked questions
When you buy a stock outright, you are investing your own money. When you use leverage, you are essentially borrowing money to invest, which can increase your potential returns – but also your risk.
One reason you might want to use leverage is to increase your buying power in the market. With leverage, you can control a larger number of shares than you could otherwise afford. This can help you generate higher profits if the stock price goes up.
Another reason to use leverage is to offset some of the risk in your portfolio. By using leveraged ETFs or other leveraged products, you can essentially short the market or individual sectors or asset classes. This can help protect your portfolio from a sharp market decline.
The amount of leverage you can use depends on the value of the stocks in your account and the margin requirements set by your broker. Margin requirements vary from broker to broker, but are typically around 50%. This means that if you have $10,000 in stocks in your account, you can borrow up to $5,000 from your broker.
The biggest risk of using leverage is that it can amplify losses as well as gains. If the value of your stocks falls sharply, you may end up owing money to your broker.
A margin account is a type of brokerage account that allows you to trade stocks using leverage. To open a margin account, you’ll need to deposit cash or securities with your broker as collateral. Once the account is opened, you’ll be able to borrow money from your broker to buy stocks. Just be aware that there may be interest charges on the money you borrow, and if the value of the securities in your account falls below a certain level (known as the margin call).
Leverage stock trading requires precise use of leverage ratio which can easily be calculated with a leverage trade calculator. The calculator will tell you the required margin on your proposed trade. If you can’t afford the margin requirement you either need to increase the leverage or decrease the position size.
Bottom line – Is it worth it?
There’s no easy answer to this question. It really boils down to your risk tolerance, your skills as a trader, and your level of patience. Some people find that leveraging their trades can help them boost profits significantly. Others find that the additional risk is simply not worth it.
This guide has been a full tutorial on the basic concepts of leverage stock trading where we explain things such as:
- What it means to leverage stock
- Is it possible
- How you do it
- The pros and cons
- How to calculate
- Maximum ratios
If you’re thinking of leveraging your stock trades, be sure to do your research and understand the risks involved. This guide is a great way to start your education and keep reading our other articles to gain more knowledge.