Next to the series of articles on basic forex terms that a trader needs to know is a term that everyone seems to be afraid to talk about, that is margin call . Margin call appears means that your trading account is in danger, about to be burned, which is absolutely not what we want. However, margin call is still not really scary because traders can still intervene to improve the account better, but if a stop out happens, you lose everything.
So, what is margin call? What is Stop Out? How do they affect a trader’s trading account and how to avoid margin calls or stop out in forex trading? Let’s answer with Top10mmo.vn in this article.
What is margin call?
Margin call or Margin call is a notice, warning or alarm issued by the forex broker to traders when the margin level falls below a certain limit according to the regulations of the exchange, to they have timely interventions to their trading accounts.
When starting to open trading positions, the margin level is very high, if > 100%, it is considered a safe margin. During the trading process, if the market goes in the right direction, the margin level will increase due to increased equity, the account is profitable. On the contrary, if the market moves in the opposite direction, equity decreases, margin level decreases, if this ratio drops to <= 100%, it means you no longer have the ability to open any new orders. If the market continues to turn against you, the margin level will drop further, the account is in danger, if there is no timely intervention then the margin level will go to 0 due to zero equity, the account loses completely or even negative margin level due to negative equity, you are owed the floor an amount equal to that negative equity. To avoid the case that the margin level goes to 0 or becomes negative,
Depending on each forex broker, the margin level limit for margin calls will be different, and this rate will also vary for each type of trading account, but usually 150%, 100% or 80%.
When a margin call occurs, traders have 2 ways to improve the margin level of their account:
- Increase your margin level by increasing equity, which means adding more money to your account.
- Increase margin level by reducing used margin, which means you can close part or all of your losing positions.
Margin call example:
Your trading account has a balance of $500. You open 5 new orders, each with a margin of 30$. The margin call that the broker applies to your account is 100%.
- Total used margin is 150$.
- Equity at the start of order matching is 500$=balance
- Margin level at the beginning of order matching is (500/150) * 100% = 333%
If the market goes in the right direction, your order is profitable, the equity increases to $550, then the margin level will now be 367%.
If the market goes in the opposite direction, 4 out of 5 orders are losing heavily and the total equity drops to only $120, then the margin level will now be 80%. At this point, a margin call will appear.
In fact, equity is constantly fluctuating because profit/loss is updated continuously according to price movements, so by the time the equity drops to $150, i.e. margin level is 100%, the margin call is already over. appeared already.
What is Stop Out?
When margin call occurs, there will be 2 cases:
Case 1: trader takes one of two measures to improve margin level.
If you feel that open positions are likely to turn the tide, the market will quickly return to what you predicted, you should deposit more money in your account or close down heavy losing orders. , there is no resilience to improve margin level to retain potential positions. Or else, you can close all orders to close your losses when you realize your analysis is wrong, the market will continue to work against you.
Case 2: trader does not intervene when margin call occurs
- If the market suddenly reverses, your orders from losses will start to be profitable, the margin level will automatically increase, you do not need to deposit more money or close less orders.
- But what if the market continues to go against your order? Margin level will continue to decrease further, to a certain limit close to zero, the forex broker will automatically close all your orders without any warning or notice.
The fact that the floor automatically closes the trader’s running orders when the margin level drops to a certain limit, lower than the margin call is stop out or call out.
Similar to margin call, each forex broker will prescribe a margin level limit for stop out and this rate will also be different for each type of trading account, but the rate that most forex brokers today are applicable on standard account types of 50% or 30%.
How will the stop out process take place?
When the margin level drops below the stop out rate prescribed by the floor, the floor will automatically close your running orders in turn. The order with the most loss will be closed first, then, if the margin level increases to a safe level, the system will automatically stop, but if the margin level is still lower than the stop out level, the floor will continue to close the next order. This process will continue until all orders are closed or the market reverses, or you start to intervene by adding more money to the account, the margin level increases, stop out will not happen.
Example of stop out:
Your trading account has a balance of $500. You open 5 new orders, each with a margin of 20$. Margin call that the broker applies to your account is 100%, stop out is 50%.
- Total used margin is 100$.
- Equity at the time of order matching is 500$
Margin level at the beginning of order matching is (500/100) * 100% = 500%
If orders continuously lose, margin level drops to 100%, margin call will appear.
If you do not deposit more money into your account or close less orders and the order continues to lose more, at the time the margin level drops to 50%, the stop out will occur.
Why do forex brokers apply margin call or stop out mechanisms on traders’ trading accounts?
As mentioned, a margin call appears to warn traders that your prediction is going in the wrong direction, that your order is losing money and needs timely intervention to avoid losing everything or being indebted to the floor. .
When a margin call occurs but you do not intervene to improve the margin level ratio, then force the forex broker to close your order if the margin level continues to decrease because they do not want you to lose more than the amount you have in your account. account. If you do not close the order and the market continues to work against you, the account will be negative. At this point, you are owed an amount of money back to the floor, or in other words, the floor has given you an advance to pay the corresponding trader in the market. When you add more money to your account, the floor will automatically deduct the debt. Forex brokers use the stop out mechanism to avoid the case that you do not add more money to your account or in other words avoid debt.
Measures to avoid margin call, avoid stop out?
If a margin call occurs, you still have a chance to save, but once a stop out occurs, it is considered a loss confirmation. Therefore, in these two mechanisms, stop out is much more scary and the thing to do is never let it happen.
However, the distance from margin call to stop out is very short, in case the market is volatile and the margin level is falling, it will drop very quickly, which makes margin call and stop out seem to happen at the same time. So there are many cases where the order is automatically closed without any notice happening. Therefore, it is better not to let the forex broker warn of margin or margin call. Margin call does not appear, then stop out will definitely not happen.
Set stop loss for all trades
Stop loss is the most effective tool to help you limit the loss for each order automatically when the market goes against the direction of prediction without having to sit for hours on the computer. When the loss is fixed, it means that the margin level will only decrease to a predetermined level, so it is certain that the margin call will not appear, the stop out will have less chance to happen.
In addition, stop loss is also an indispensable risk management tool in forex trading, even professional traders consider stop loss as a trading principle, there is no reason for us, new traders. skip it again.
Place orders with small volume
Small volume, the margin of the order will be low, leading to a higher margin level, the distance from the time the order is matched to the worst case scenario, the margin call will also be longer. The total trading volume for all orders is not more than 5% of the total account balance which is the most commonly used strategy. For new traders, you should apply this principle, although the profits are not high, this is the best way to limit risk.
Use the right leverage
For a new trader with little capital, the use of leverage in trading is a must. Leverage will help them maximize profits on small capital but the higher the leverage, the greater the risk. A high leverage ratio will make you more and faster but will also make you lose more and also faster respectively. However, using a low leverage ratio will cause the margin margin to increase, the margin level to decrease, in case the market goes against the trend, the margin call will come faster.
Therefore, you should choose a moderate leverage ratio, combined with low volume for higher trading efficiency and still avoid margin calls.
However, whether placing low volume orders or using moderate leverage, the most important thing that you must not forget is to always set a stop loss for all orders , which is an effective and sure measure. best to avoid margin call and stop out.
Conclusion
Obviously, margin call or stop out are things that no trader wants to happen to their account. Although we can intervene in many ways to prevent these two mechanisms from happening, the most important thing is still how to correctly predict the market’s trend so that the margin level always remains at a safe and daily level. increased in transactions. And the only way to do this is to invest in knowledge. Trading knowledge, trend analysis knowledge, market analysis and especially practice trading a lot to accumulate experience for yourself.
GOOD LUCK.
