How does trading on margin work? – Zen Fintech

When you trade on margin, you do so by using leverage. The leverage on a trade will be displayed as a ratio - for example, 5:1. This is equivalent to a 20% margin and means that, for every $1 of capital that you put up, you are actually opening a position worth $5.

Your margin requirements will differ depending on your broker, the jurisdiction and the assets that you wish to trade.

The capital that you need to put up is known as your deposit margin. This is sometimes referred to as your initial margin or required margin. Then there is your maintenance margin, which is the amount that you need to have in your account to cover any losses that you may make on a trade. If your maintenance margin is not sufficient, it could result in a margin call, which we'll explain later in this guide.

An example of a margin trade

Here's a theoretical example of how margin trading works:

Company XYZ has a buy price of $100 per share
You think the value of Company XYZ is set to rise, so you choose to open a long position
For this type of trade, your broker sets a margin requirement of 20%
That means that, for every share you want to buy, you need to put up $20, rather than the full $100
You choose to buy 50 shares, which means putting up $1,000 to open a position worth $5,000
The value of Company XYZ does rise as you predicted, to a sell price of $110, at which point you opt to close your position
Your position is now worth $5,500 from an initial outlay of $1,000 - a profit of $4,500 before any commissions or charges are deducted.

It's important to remember, however, that margin trading can work against you to the same extent. If the value of Company XYZ had dropped to $90, then, you would be looking at a loss of $4,500.

What's the difference between margin and leverage?

Leverage and margin are closely related but they are not the same thing:

Margin refers to the amount of capital that you are required to put up to open a position. It is usually displayed as a percentage.
Leverage is used to illustrate how many times your margin will be multiplied to calculate the full value of your position. It is usually displayed as a ratio.