What is Margin Trading?

In margin trading, you can invest with capital borrowed from a third party/broker. With access to extra capital and hence boosting buying powers than that available as your existing account. It is popular because, by this, you can leverage your position and up your profit potential. Basically, here you are using just a fraction of the amount required to open a large position, from your own amount. The rest you are borrowing.

Simply put, in margin trading, you make a trade with borrowed money or leverage, which can either increase your profit or escalate your loss. Especially given the highly volatile nature of the crypto markets, margin trading, involves higher risks, and you need to be able to recognise market trends, interpret the charts and be skilled in determining entry and exit points of trades, some experience in spot trading can also be handy.

The process: In margin trading, you use your own funds as collateral to borrow from a broker. This borrowed amount is then used for trading. The difference between the amount available in your account and the amount you are asking to borrow to carry out the trade is called the margin.

You are first required to deposit an amount held as collateral (this amount is an assurance to the third party broker that you would be able to pay off the debt/amount borrowed) at the exchange to open a position; this is called the initial margin. This initial margin can vary from market to market depending on factors such as asset type, size of the trading position, etc. And then maintain a certain amount in your margin account to hold the position. Exchanges such as Kraken, ByBit, BitMEX, and Binance allow margin trading.

Margin and Leverage:

‘Margin’ is the loan the exchange grants you. With this borrowed amount or margin, you can create ‘leverage’ or increased buying power that enables you to open at a more prominent position than you could with your own funds. Simply put, using borrowed capital to carry out a trade-in in an attempt to increase the potential returns is called leverage. Most exchanges offer different leveraging options and let you choose the leverage amount. Leverage is expressed as a ratio, which is the money you have invested and the amount you are allowed to trade post borrowing funds. If the platform allows you to trade in Rs 100,000 upon investing Rs. 1,000, your leverage will be mentioned as 1:100.

Margin and leverage trading are interrelated but not mutually exclusive or interdependent. Although margin accounts are usually used to generate leverage, these are not entirely co-dependent. One can borrow money employing other methods than using a margin account to generate leverage. Although both margin and leverage trading require you to borrow money, in margin trading, it is mandatory to have collateral in your margin account as an assurance that you will be paying back the amount to the broker with interest. Also, while long-term trade in leverage reduces risk, margins are more conducive for short-term investment in high-liquidity markets.