Advantages and Disadvantages of leverage trading

Introduction

Leverage trading can be very lucrative if executed profitably on a consistent basis. To do this, it requires a proven trading methodology alongside strict risk management protocols. This methodology of trading allows traders to gain greater exposure to the market with relatively small amounts of capital – the leverage ratio. Being able to do this comes with great returns, however there are certain risks involved. The following are some of the key advantages and disadvantages of leveraged trading.

Advantages

-Trading with leverage allows the individual to be more flexible with their capital. As the notional value of their position is only a fraction of the total size, it essentially frees up capital that can used elsewhere.

-The Leverage Ratio allows traders to take out bigger positions that would not have been possible if trading was on spot. This allows the trader to put their capital at work as well as having the amenably to perform multiple trading activities.

-The returns can be astronomical, this is in direct proportion with the trading methodology used.

Disadvantages

-When trading with leverage, there is no underlying asset, it is simply a contract that is traded between two parties, nothing physical is involved.

-Margin Calls need to be serviced, failure will mean that liquidation levels are to be hit, this automatically takes the trader out of the trade.

-Losses can be substantial if risk is not managed, traders can wipe accounts if risk is not managed properly.

Other pros and cons

Other pros and cons that stem around leveraged trading is that they allow for hedging and diversification. Hedging is a form of risk management that when executed, the portfolio remains at a stable level despite the market movements. This is highly useful when high timeframe trend changes occur. Leverage also allows for diversification, weather that be freeing capital to trade other assets and or opening multiple positions at the same time.