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What is Margin Trading? How Does it Work?

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You might have come across the concept of Margin Trading in crypto, and would be interested in knowing what exactly does it mean?

Assume that you are trading cryptocurrencies online. You are feeling very much confident that one of your assets is about to lift off. You expect that your assets will be expanded; however, you want to add new capital in exchange or have to abandon all of your other positions.

With the help of margin trading, you can expand a single asset without having to liquidate other assets or add more capital.

In plain terms, margin trading is borrowing funds from a third source, such as a bank or an exchange, in order to increase an investment.

While margin trading multiplies your profits, it also simultaneously multiplies your losses at the same time. Therefore, due diligence and risk mitigation are both key to protecting your assets.

We will discuss the dynamics of margin trading and its ultimate aspects in this post. Now let us dig more deeply into this article,

What Is Margin Trading?

Margin trading refers to the process in which funds are borrowed from a third party such as a bank or an exchange to create an investment. Although your profit is compounded by margin trading, it also multiplies your losses. 

Crypto margin trading is a lending practice that requires traders to borrow cash from other traders on an exchange or the exchange itself to gain greater exposure to a single asset. 

Unlike regular trading in which sellers use their own resources to fund trades, margin trading allows traders to multiply the amount of money they are willing to sell. Margin trading is also called leverage trading, for the most part. 

“Leverage “is the rate from which the position of an investor can multiply. For example, a margin trader opening a trade with 100X leverage would multiply their exposure and probable benefit by 100 times.

How does Margin trading work?

So, now that you know what is margin trading, you might be keen on how exactly the process of margin trading works? Let us look into this further,

Margin trading operates reasonably easily on a fundamental basis. A dealer gives the exchange a small bit of money in exchange for a lot of cash to trade with, and further sacrifices it all for the opportunity to make a big profit.

For margin trading, a trader must make an initial deposit, referred to as the ‘initial margin,’ in order to open a position, and must keep a certain sum of money in their account in order to retain the position, referred to as the ‘maintenance margin.’

Various cryptocurrency exchanges provide varying leverage quantities. Some exchanges offer leverage of 200X, allowing traders to open a spot 200 times their original investment amount, while others limit the leverage to 20X, 50X, or 100X. 

So, if you have $10,000 in capital, 2x leverage margin trading will allow you to buy assets worth $20,000. Margin trading at 3x leverage will allow you to buy assets worth $30,000, and so on.

The amount of money that you put up remains, of course, the same. This means that the majority of the money you invest is being borrowed. This borrowed money is usually also called a margin loan.

How to Margin Trade Crypto?

After looking into how margin trading works, We will break down the concept of how exactly to margin trade crypto?

We will take the example of OKex Exchange to describe the steps involved in Margin Trading. The steps involved can be explained in detail as follows:

Step 1: Log in to the OKEx account. Head to Token Trading. A pop-up window of the user agreement on leverage trading will appear. Then read the terms carefully and agree to proceed with them.

Step 2: In your margin account, under numerous trading pairs, funds are segregated. In order to switch funds into the account, Choose “transfer from” of the trading pair you wish to exchange.

Step 3: “Choose a trading pair labelled with” 5X “on the Token Trading tab, and press” Move “to deposit your asset from your wallet or other trading account to your margin account. Choose” 5X Leverage” under “Tokens Trading “on your right to turn to leveraged mode. Trading pairs with the suffix “5X” are the ones supported by leverage.

Step 4: Select ‘repay’ for repayment and enter the amount. Pick the current margin account, click “repay” on the right side, fill in the repayment number, and then click ‘Submit’ to repay the loan.

Advantages of Margin trading

Here are the major advantages which margin trading has to offer,

The most apparent advantage of margin trading is that, owing to the higher relative valuation of the trading positions, it will result in greater gains. Margin trading can be beneficial for diversification because, with comparatively limited quantities of investment money, traders can open many positions. 

Finally, with a margin account, it would be better for traders to quickly open positions without having to shift large sums of capital to their accounts.

Disadvantages of Margin trading

Margin trading, with all its benefits, also offers some disadvantages,

It has the apparent drawback of raising losses in the same manner as it can boost profits. Margin trading, unlike regular spot trading introduces, the likelihood of losses that outweigh the original investment of a trader. 

Only a little significant decrease in the market price will result in significant losses for traders, based on the amount of leverage involved in a trade.

Risks Involved in Margin trading

There are some bigger risks associated while you are doing margin trading. 

Not only would you be able to lose money more easily, but it will also be liquidated sooner based on the assets. You risk all your invested capital if you are liquidated. Hence this is something you want to take note and stop at all costs.

It must be remembered that you are never going to spend more cash than you have in your account. It could give you extra benefit from leveraged margin trading, but it might also mean that a 10 % price fall might mean a 100 %  decline for you. (with a 10x leverage)

It is no coincidence that the gains and losses are both compounded by margin trading. If you are investing at 5x leverage on the margin and the price rises by 3%, you can see a 15% return on your original investment. Similarly, A 3 % drop in your asset’s market valuation would result in a 15%  drop in the value of your asset.

Conclusion

Margin trading is definitely a convenient method for those who wish to amplify the profits of their successful trades. When used correctly, the leveraged trading provided by margin accounts would aid in both liquidity and market diversification.

However, this trading strategy can also intensify losses and entails far higher risks. So, it should be used by only highly qualified traders. As far as crypto-currency is concerned, margin trading should be treated even more cautiously due to the high rate of market uncertainty.

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