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Margin call and stop out - figuring out what it is.

Margin Call and Stop Out

It is quite obvious that trading on Forex market gives not only possibility for high profits, but also is fraught with high financial losses. In fact, size of potential income in many cases is directly proportional to existing risk, which makes market participants hedge their open positions from possible losses.

As the vast majority of traders have very limited funds, they can trade on Forex only through an intermediary online broker. In this case, the intermediary requires his client to make a deposit (margin), against which he borrows money with different leverage (leverage). For example, Forex trading with leverage 1 to 100 indicates that the trader, putting on the security deposit of 1 thousand dollars, is able to use the credit to open positions totaling 100 thousand dollars. In this case, the security deposit serves as a collateral for the broker which guarantees him the return of the credit.

But in case of an unfavorable market trend, when the market reaches a certain price level, the trader may not have enough funds to cover his losses. In this case his losses will have to be covered by the broker. To prevent this, the broker sets a critical level of loss in advance - stop out, upon reaching which unprofitable positions will be automatically closed at the current market price. The stop out level is determined as a percentage for the whole trading account, taking into account all open positions and accumulated, but not fixed profit and loss - see the following formula:

Stop out loss level to calculate stop out = ((Trader's Account Balance + Floating Profit - Floating Losses) / Margin) × 100%

As a rule, a broker sets the stop out at the level of 20-30%, sometimes 10%.

While the margin call is a broker's requirement to a trader to deposit additional funds into his trading account. It should be noted that back in the days when exchange trading was done over the phone, a margin call was a call from a broker who wanted to notify a client that a position was about to be liquidated. Thus, when the account is just approaching a stop-out, a margin call is announced, alerting the trader that he has to make a decision: either to deposit his trading account, or wait until the stop-out occurs. In the case of margin call trader's positions are still open, but he does not have an opportunity to open a new position without depositing additional funds.

Let's assume that the trader has $1000 on his account, and bought seven mini-lots of euros at the rate of $1.3810 for 1 euro. Since seven mini-lots = 70,000 euros, he therefore had to spend the following amount to buy them: 70000*1,3810=96670. The broker's leverage equals 1 to 100, that's why when the trader buys seven minilots, he gets $966.7 frozen on the insurance deposit as a deposit, at the same time he has $33.7 available.

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