Dynamic Leverage Explained

Dynamic Leverage Explained

Presuming you already know what leverage is (If you don’t, skip to the next section “What is Leverage” and then come back to this one). Dynamic Leverage is the concept of dynamically reducing the amount of Leverage your broker gives to you. In cTrader, you are able to see if your broker is using dynamic leverage tiers. You can find the Dynamic Leverage settings in the in the Active Symbol Panel in cTrader Web or the Symbol Information window in cTrader Desktop and scroll down. If your broker is not using this, then there will only be one tier. Even if your broker doesn’t use Dynamic Leverage, it’s a good idea to understand these concepts. In this article, we will explain everything about cTrader Dynamic Leverage.

What is Leverage?

Leverage is the concept of borrowing money from your broker for investment. In this scenario, we are borrowing for opening CFD positions. With Leverage from your broker, you can increase your buying power. Leverage simply multiplies your initial deposit. Leverage is very useful for trading because it means you do not need a massive amount of funds to invest. You are able to profit from small price movements in markets such as Forex with modest deposits in comparison. With the leverage of 1:500 you are able to enter a position if 100,000 EUR/USD with just €200 of margin. Now you can go back to the beginning if you didn’t already know what Leverage is.

Why do Brokers Use Dynamic Leverage

Dynamic Leverage is quite simply a risk management tool for your broker. Imagine if you have the leverage of 1:500, which means your broker is multiplying your deposit by 500. If your deposit is $20,000, this means you can open a position of 10,000,000 USD/JPY. This very large position can cause an exposure risk to your broker. On the other hand, your broker may not want to make a firm rule of only giving you 1:50 leverage because of your large deposit size. As a better solution, your broker will offer you 1:500 leverage, but at a certain point, they will start reducing it. This is an ideal compromise for both parties.

What does Account Leverage Mean?

This may be slightly confusing if your account leverage is for example 1:400. Your account leverage is the maximum amount of leverage you will ever use. The table in the above images doesn’t change that. What it does mean, however, is that if your account leverage is 1:1000, the maximum amount of leverage you can get on this particular symbol is 1:500. Dynamic Leverage overrules your account leverage. Account leverage is basically the most you can have if it’s available.

How does Dynamic Leverage Work

In cTrader, the Dynamic Leverage scheme is set per symbol. This means each symbol could theoretically have different settings. Typically that would not be likely. Most brokers will have one scheme for major Forex pairs another for minor, exotic, indices, stocks etc. each category of symbols will have different settings. So the settings will not be completely random, there will be a pattern. This all depends on the broker. That is why it’s important to pay attention to Dynamic Leverage rules.

Dynamic Leverage tiers are based on exposure. Exposure is different to Volume and you should not confuse them. Exposure is the total amount of notional volume of a symbol you have open in a specific direction. Exposure is important because it’s the deciding factor for which leverage tier your position will fall in. Here is a simple example of how exposure is calculated.

The exposure of these 3 positions is Long 30,000 EUR/USD.

  1. Position #1: BUY 10,000 EUR/USD
  2. Position #2: BUY 10,000 EUR/USD
  3. Position #3: BUY 10,000 EUR/USD

The exposure of these 4 positions is Long 25,000 EUR/USD. Also note that while the exposure is 25,000, the volume is 35,000.

  1. Position #1: BUY 10,000 EUR/USD
  2. Position #2: BUY 10,000 EUR/USD
  3. Position #3: BUY 10,000 EUR/USD
  4. Position #4: SELL 5,000 EUR/USD

Dynamic leverage tiers in cTrader can be represented something like this:

TierExposure in USDLeverage
Tier #1⩽ 1m1:500
Tier #2⩽ 2m1:200
Tier #3⩽ 3m1:100
Tier #4> 4m1:50

An Example of Dynamic Leverage

To show how Dynamic Leverage is calculated leverage according to the tiers shown above, here is a simple example.

 DirectionVolumeExposureDynamic LeverageSymbolLeverageMargin Used
Position #1BUY1,000,0001,000,000100% in Tier #1USD/JPY1:500$2,000
Position #2BUY500,0001,500,000100% in Tier #2USD/JPY1:200$2,500
Position #3BUY1,000,0002,500,00050% in Tier #250% in Tier #3USD/JPY1:1001:50$2,500$5,000

As you can see above, the first two positions are created with different rates of leverage and margin requirements are noticeably different. From the third row, you can see that the exposure from Position #3 has fallen within Tier 2 and 3. Half of Position #3 has been given 1:100 leverage, whereas the other half has been given 1:50 leverage.

Changing Exposure

So far in this article, we have only explained how Dynamic Leverage works when exposure increases in an orderly and logical way. The concept of Dynamic Leverage now begins to get a bit more complex. Now we look at what happens when exposure is reduced by closing or reducing the size of positions. In cTrader, there are two ways this can work. One method is to recalculate margin requirements upon each change. The other is to permanently lock the initial margin requirements to a position. These methods will be chosen by your broker, so be sure to check which of the two methods is being used, in case Dynamic Leverage is being used by your broker.

Margin of Open Positions is Recalculated

One of the two methods is to trigger margin re-calculation based on the Dynamic Leverage tiers for all open positions and every time positions are modified (increased, decreased or closed). Recalculation can also be triggered if your broker chooses to change some Dynamic Leverage settings. Forex brokers are known to change leverage rules upon major events or big market movements. They never do this without announcing it in advance. It’s important to review the announcement from your brokers. The benefit of this method is you never end up blocking more margin than what you need. This is the major downside of the other method.

Margin of Open Positions is Not Recalculated

This setting does not trigger margin re-calculation upon changes to exposure. Existing positions will store the previous margin requirements and only new positions will have margin calculated according to the Dynamic Leverage tiers. The margin required for new positions will be calculated according to the current exposure of the account. As positions are closed, the amount of margin they release exactly what they took. Looking at the three positions of the previous example, if Position #1 is closed, only $2,000 of margin is returned to the account. Positions #2 and #3 will continue to consume more margin than what the broker needs to maintain the exposure. Also, if a position is partially closed, the amount of margin freed will be pro-rated. For example, if position #2 is halved, the amount of margin released will be $1,250, which is also half and positions #1 and #3 remain the same.

While this method may seem more rigid than the other, at times it can be safer. For example, if your broker will change Dynamic Leverage settings, your already open positions will not be affected. Only new positions will be.

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