How Much to Invest in Forex: Why Starting on a Low Budget Is Rarely a Good Idea
If you are new to the world of Forex trading, chances are you were first introduced to this world by one of the many flashy banners you see around promoting brokers that say you can open a mini-account with them with just $100, sometimes even less. However, despite what you may have been made to believe, investing such low sums of money is generally a bad idea.
Mini-Lots in Forex
Many online brokers these days feature what are commonly referred to as "mini-accounts", which let you trade lots that are ten times smaller ("mini lots" of 10,000 units) instead of the standard lots of 100,000 currency units, in order to make it easier for you to start out with low capital.
Many novice traders interpret this as a possibility to start trading with very little money that other "evil" brokers will not offer them because of pure greediness (and evil, of course). However, the truth is that the "bad guys" here are actually the honest ones: when you make a $100 deposit to trade 10,000 lots, you are starting out heavily penalized.
Typical Examples of a $100 Forex Trading Account
For starters, a minimum $100 deposit to trade 10,000 lots on a mini (USD) account means that your leverage is 1:100 (theoretically, but much more likely around 1:200 or 1:400). Let's analyze the three cases.
Case #1 — 1:100 leverage
This is just a theoretical case as no broker would actually let you trade under these conditions: but it is still interesting to analyze. When you place a trade in, say, USD/JPY on a 10,000 lot, your margin is $10,000 / 100 = $100. So you will get a margin call as soon as you are down just 1 pip! This means that not only will you lose that pip but also the whole spread. You will not have enough money to cover the margin for another trade, so you will need to deposit more.
Case #2 — 1:200 leverage
This is more of a reasonable (and realistic) case. Your margin is $10,000 / 200 = $50 per trade. Remember that a the price of a pip in a USD/JPY mini-lot, assuming a USD account, fluctuates depending on the current market rate. For simplicity, let's assume it to be exactly $1. This means that you can only afford to lose 50 pips before you trigger a margin call. This will limit your strategy enormously, practically forcing you to trade by scalping.
Case #3 — 1:400 leverage
Under these conditions, your margin is $10,000 / 400 = $25, and you can afford to lose 75 pips on USD/JPY before incurring a margin call. This still gives you very little freedom with regards to your trading strategy.
Note that in these examples it looks like with high leverage only come great advantages, but remember that leverage can work for you as well as against you.
Only Invest the Money You Can Afford to Lose!
Since this article is titled "How much to invest in Forex", we could not end it without restating a disclaimer that is often seen on the Web, but still deserves a lot of attention. Do not trade Forex to pay off your student loan. Do not trade it to pay the rent if you have no other source of income. Most important of all, do not ever assume constant profits, not even if you have been up each month for the last five years in a row. You should only invest in Forex the money you can afford to lose without consequences.