What is Leverage?
Leverage is a trading concept that refers to the ability of traders to use borrowed funds from a broker or other financial institution in order to increase their potential returns on an investment. It can be used with any asset class, including cryptocurrencies. By using leverage, traders can control larger positions than they would normally have access to by only investing their own capital. This magnifies both gains and losses; when markets move favorably, leveraged positions can generate large profits, while unfavorable moves may result in significant losses. As such, it is important for investors to understand how leverage works before attempting this type of strategy.
Types of Leverage
There are several types of leverage available when trading cryptocurrency. These include:
• Margin Trading – Margin trading involves borrowing money from your exchange or broker to increase the size of your position beyond what you could afford with just your own capital alone. When margin trading with cryptocurrency assets, the amount borrowed must usually be paid back at some point in the future (usually within a few days). If markets move against you during this time period and you cannot pay back the loan plus interest accrued on it then you will incur a loss which may exceed your initial deposit into the account.
• Futures Contracts – A futures contract allows two parties (the buyer and seller) agree upon an asset’s price today but deliver it at some point in the future – typically one month later or more depending on market conditions. When these contracts are traded using leverage, buyers are able to purchase more contracts than they otherwise could if they had only their own capital available; likewise sellers can sell off more contracts than normal as well without needing additional funds upfront aside from those used for margin requirements set by exchanges/brokers offering these services .
• Perpetual Swaps – Perpetual swaps allow traders to speculate on price movements without expiry dates like futures do; instead these trades remain open indefinitely until either side chooses close them out manually or whenever predetermined liquidation levels reached due excessive losses incurred during market volatility periods . Traders who use perpetual swaps are also able take advantage of up 10x higher levels compared traditional spot margins offered by most exchanges allowing them greatly increase potential earnings provided risk management practices followed correctly .
Advantages & Disadvantages Of Leverage Trading With Cryptocurrencies
The main advantages associated with leveraging when dealing with cryptocurrencies includes increased exposure within smaller amounts invested thus potentially bringing greater returns even small movements price action across various digital assets . On downside however , there’s always chance incurring much larger loses especially when markets turn unexpectedly leaving trader unable cover his/her debts owed brokers /exchanges leading significant debt obligations being added balance sheet hence why proper understanding fundamentals should done prior engaging such activities so risks minimized best possible extent