Leveraging is a technique in trading to multiply gains and losses quickly through borrowing capital on existing assets to increase their buying power. Leveraging has been around in the financial market for a while. Between 2007 and 2009, the Lehman Brothers leveraged 30x their assets which led to a crisis for the market. The risks of cryptocurrency increases with leveraging as the coin market cap is small when compared to the traditional financial market. Many had claimed that leveraging led to the bear market in the cryptocurrency world as we see today. However, many still use leveraging to not only increase their position in trading but also for their liquidity and safety. Since exchanges are the honeypot for hackers, many traders do not want to leave their money in exchanges for hackers to steal, making leveraging a more attractive option as they do not need to hold 100 Bitcoins in the exchange in order to trade 100 Bitcoins.
This is how leveraging works in action. If a cryptocurrency exchange requires a 1% margin, the trader then has a leverage of 100:1. For example, the trader puts down 1 Bitcoin and leverages 100:1 to borrow 99 Bitcoins to buy 100 Bitcoins. Now, no matter what happens, the trader needs to pay back 99 Bitcoins plus any fees. Nowadays, there are exchanges that have a “call in” for margin trading, which means whenever the trader hits a price where they start losing the borrowed money, a margin call could be made to avoid putting borrowed money into the position. Exchanges do this because they do not want you to lose the borrowed money especially if you are leveraging 100:1. In certain exchanges, traders can margin trade on longing or shorting, which means traders could bet on prices going down as well.
In summary, here are the pros and cons of margin trading:
- Liquidity without a lot of upfront cost
- Less likely to lose everything on an exchange from a hack since traders can increase their positions without holding a lot in the exchanges
- Multiply your gains in minutes or hours
- Could beat hodling, as an average hodler lost 70% of their assets during 2018 in the cryptocurrency market.
- It is very risky, and it sucks extra hard when a position is lost as you lose more money than you have in your account as the money is not yours, you might have to pay all the lost money back
- Movement is faster than traditional exchanges since it is a larger % of borrowed money
- In some exchanges, there is no “call in”, so a trader could lose everything and have a negative balance
- Higher fees than usual exchanges as there are fees needed to leverage
Here are some tips to follow for margin trading and leveraging:
Watch the market very closely. If something moves south quicker than expected, let go at a certain point. Do not wait until everything is lost!
Make sure the account doesn’t fall below the “Maintenance Margin Requirement”. This could happen when the price of a coin goes opposite of the trader’s bet. In certain crypto exchanges, they would either liquidate the trader’s asset to get their money paid back or request the funds from the trader. Either way, it is not great news. Also, the "Maintenance Margin Requirement" differs depending on the exchange and the coin. Normally, each exchange does offer an improved call price when the account has a higher balance.
Only trust certain sources and check their credibility with a low gamble. Especially in the cryptocurrency world, where there are plenty of Telegram chats claiming to pump coins to the moon every day. Make sure to check the chats and sources. Lately, the newest scheme seems to be selling prediction charts for .01 Bitcoin each. If you end up spending money on these charts, make sure to spend some time testing it with a low amount of money to make sure you know how to use the charts as well as the accuracy of the charts.
Good luck in the world of margin trading and leveraging!