If you are trading forex with leverage, you need to be aware of the risk of stop out. Forex stop out is a situation where your broker automatically closes your open positions when your margin level falls below a certain threshold. This can result in significant losses and damage your trading account.
In this blog post, you will learn what causes forex stop out, how to prevent it, and how to manage your leverage and margin safely. By the end of this post, you will have a better understanding of how to avoid stop out and protect your capital.
What Causes Forex Stop Out?
Forex stop out is caused by a low margin level, which is the ratio of your equity to your used margin. Equity is the value of your account, including your profits and losses. Used margin is the amount of money that your broker requires to keep your open positions.
The margin level is calculated as:
Margin Level = Equity / Used Margin X 100%
The stop out level is the minimum margin level that your broker allows before closing your positions. Different brokers have different stop out levels, ranging from 10% to 100%. For example, if your broker has a stop out level of 50%, it means that your positions will be closed when your margin level drops below 50%.
There are several factors that can influence your margin level and trigger a stop out, such as:
- Leverage: Leverage is the ratio of your trading capital to the amount of money that you can trade with. For example, if you have $1,000 in your account and use a leverage of 100:1, you can trade with $100,000. Leverage allows you to trade with more money than you have, but it also increases your risk and your used margin. The higher the leverage, the lower the margin level, and the higher the chance of stop out.
- Trade size: Trade size is the amount of units or lots that you trade. For example, if you trade one standard lot of EUR/USD, you are trading 100,000 units of EUR. Trade size affects your used margin and your profit and loss. The larger the trade size, the higher the used margin, the lower the margin level, and the higher the chance of stop out.
- Volatility: Volatility is the measure of how much the price of a currency pair fluctuates over time. Volatility affects your profit and loss and your equity. The higher the volatility, the more unpredictable the price movements, the more likely your positions will go against you, the lower your equity, the lower your margin level, and the higher the chance of stop out.
- Price movements: Price movements are the changes in the value of a currency pair over time. Price movements affect your profit and loss and your equity. If the price moves in your favor, your profit increases, your equity increases, your margin level increases, and your chance of stop out decreases. If the price moves against you, your loss increases, your equity decreases, your margin level decreases, and your chance of stop out increases.
Examples of Forex Stop Out Scenarios
To illustrate how these factors can cause a forex stop out, let’s look at some examples of stop out scenarios and calculations:
- Example 1: You have $1,000 in your account and use a leverage of 100:1. You buy one standard lot of EUR/USD at 1.2000. Your used margin is $1,000 and your margin level is 100%. The stop out level of your broker is 50%. The price of EUR/USD drops to 1.1900. Your loss is $1,000 and your equity is $0. Your margin level is 0% and you get a stop out. Your position is closed and your account is wiped out.
- Example 2: You have $1,000 in your account and use a leverage of 50:1. You buy one standard lot of EUR/USD at 1.2000. Your used margin is $2,000 and your margin level is 50%. The stop out level of your broker is 50%. The price of EUR/USD drops to 1.1950. Your loss is $500 and your equity is $500. Your margin level is 25% and you get a stop out. Your position is closed and your account is halved.
- Example 3: You have $1,000 in your account and use a leverage of 10:1. You buy one standard lot of EUR/USD at 1.2000. Your used margin is $10,000 and your margin level is 10%. The stop out level of your broker is 10%. The price of EUR/USD drops to 1.1990. Your loss is $100 and your equity is $900. Your margin level is 9% and you get a stop out. Your position is closed and your account is reduced by 10%.
As you can see, the higher the leverage, the trade size, the volatility, and the price movements against you, the lower the margin level, and the higher the chance of stop out.
How to Prevent Forex Stop Out?
Forex stop out can be a devastating experience for any trader, but it can also be avoided with some precautions and planning. Here are some tips and strategies to prevent stop out and maintain a healthy margin level:
- Use lower leverage: Leverage is a double-edged sword that can amplify both your profits and losses. While it can be tempting to use high leverage to trade with more money than you have, it also increases your risk and your used margin. Lower leverage means lower used margin, higher margin level, and lower chance of stop out. As a general rule, you should use leverage that is appropriate for your account size, trading style, and risk tolerance. For example, if you have a small account, you should use lower leverage than if you have a large account.
- Use stop loss orders: Stop loss orders are orders that automatically close your positions when the price reaches a certain level. Stop loss orders can help you limit your losses, protect your profits, and reduce your exposure to market volatility. By using stop loss orders, you can prevent your positions from going too far against you and causing a stop out. You should always use stop loss orders for every trade and place them at a reasonable distance from your entry point, based on your analysis and risk-reward ratio.
- Use risk management: Risk management is the process of identifying, measuring, and controlling the risks involved in your trading activities. Risk management can help you avoid stop out by ensuring that you do not risk more than you can afford to lose and that you have enough margin to withstand market fluctuations. You should always follow some basic risk management principles, such as:
- Risk only a small percentage of your account per trade, such as 1% or 2%
- Use a positive risk-reward ratio, such as 1:2 or 1:3
- Diversify your portfolio and avoid overtrading or correlation
- Adjust your position size and leverage according to your risk level
- Monitor your trades regularly: Monitoring your trades regularly can help you prevent stop out by keeping track of your margin level, your profit and loss, and the market conditions. You should always check your trades at least once a day, or more frequently if you are a short-term trader or if the market is volatile. You should also use tools such as margin calculator and margin indicator to estimate your margin level and your required margin before and after opening a trade. By monitoring your trades regularly, you can take action if your margin level is getting too low, such as closing some positions, reducing your trade size, or adding more funds to your account.
- Choose a reliable broker and a suitable leverage ratio: Choosing a reliable broker and a suitable leverage ratio can help you prevent stop out by providing you with a fair and transparent trading environment and a flexible and optimal trading experience. You should always choose a broker that is regulated, reputable, and offers competitive trading conditions, such as low spreads, fast execution, and high liquidity. You should also choose a broker that offers a range of leverage ratios that suit your trading style and risk profile. For example, if you are a conservative trader, you should choose a broker that offers lower leverage ratios, such as 10:1 or 20:1. If you are an aggressive trader, you should choose a broker that offers higher leverage ratios, such as 50:1 or 100:1.
Forex stop out is a situation where your broker automatically closes your open positions when your margin level falls below a certain threshold. This can result in significant losses and damage your trading account.
To prevent stop out, you need to understand what causes it and how to avoid it. You need to use lower leverage, stop loss orders, risk management, and regular monitoring of your trades. You also need to choose a reliable broker and a suitable leverage ratio for your trading style and risk profile.
By avoiding stop out, you can protect your capital, improve your trading performance, and achieve your trading goals.
We hope you enjoyed this blog post and learned something new. If you have any comments, questions, or experiences with stop out, please feel free to share them below. We would love to hear from you.
Also, don’t forget to check out our other blog posts or services for more forex-related content and tips. Thank you for reading and happy trading!