Monday, September 14, 2015

Basic principles of margin trading

What is a margin trading?
I will explain the margin trade by a real life example which will accompany us all the time in this book.
Let's say that you want to trade in cars so that you are buying a car then you are selling it in the market for a buyer at a higher price, how can you do this?
Easily you will go to one of the agencies which sell cars and you will choose one that you think that its price will raise. Assume that the price of the car at the agency car is $ 10,000
All you have to do is to save the money and pay for agency and thus you will own a car worth $ 10,000... Since the purpose of the purchase of the car is profit, you will go to the market and offer your car hoping that it sells at a higher price than the price you bought it.
Now suppose that when you went to the market you found that the demand for this type of car is high and there are a lot of people would like to buy it...So you will offer your car at a price of $ 12,000, for example...

If you sold it with this price then the net profit from the trade is $ 2,000
But what if you went to the market and found that the demand for the car is weak and that there is no one wants to buy it at a price of $ 10,000 and the maximum price one can buy your car is $ 8,000?
What does this mean?
 Simply means that if you are selling at this price, your loss in trading this car will be $ 2,000
It's clear process and be done daily and you can do it so as well.
But wait...!!
In the previous process it needs to have the amount of $ 10,000 from the beginning to be able to buy the car. It is your capital in trading.
If you do not have this amount of money will not be able to buy the car and thus will not be able to sell them in the market...
This means that in order to be able to trade in cars you must own the entire value of the car first...
Is there a way for you to do this without that you have $ 10,000?
Yes there is a way...  the trading in margin basis
how so?
What if the car agency said that? "If you want to buy a car for trading you do not need to pay the full value of $10,000. All that is required is to pay a deposit worth $ 1,000 only and we are going to book the car in your name till you find the opportunity to sell it in the market and then repay the rest of the money. "
It's a great opportunity no doubt...
Note that we said here, "reserve" the car in your name... that any agency will not actually give you the car, but the car will be booked in your name and make it at your disposal for the purpose of trading so that you can sell at the price you want as if you already own it.
But why they don’t give me the car?
Because you only paid 1/10 of its price...!! And you may take it and go away.
Instead they just book it in your name but the car will be at the agency.
So how do I trade it?
Well if you know that you have a car in your name reserved for trading and that you can sell at the price you want, you can now go to the market and the search for a buyer at a higher price than the purchase price of the car.
Say that you found in a buyer for the car at a price of $ 12,000 so you will order the agency to sell your car at a price of $ 12,000.
Buyer will pay $ 12,000 and receive the car.
Agency will deduct the value of the car which is $ 10,000 and will return to you your deposit you paid at first which is $ 1,000  plus the profit $ 2,000
Since you originally intend to trade the car but will not drive it so you don’t care if you actually get the car or  it remain with the agency.
Here you have the opportunity to trade a commodity worth ten times the amount you paid and got a full profit like if you actually have the item.
In this way the agency grantees that they will get the full value of the car and you also get the full profit.
And everyone will be happy...!!
In the previous example as you just paid for the amount of $ 1,000 you have been able to get a profit of $ 2,000 this means 200% of your capital paid-up just because you found a company that allows you to pay a fraction of the value of the item you would like to trade in.
It's a great opportunity right?
But how did this happen?
That happened because the owner of the agency gave you the opportunity to leverage your capital, from $ 1,000 to ten fold i.e. to $ 10,000 and they gave you the opportunity to trade a commodity worth ten times the value of your capital paid.
This is the so-called Leverage.
When you get the possibility of leverage your capital 100-fold meaning that you will be able to buy a commodity worth more than 100 times the value of your capital and at the same time you will get all the profit from this trade.

What if we apply it to the previous example by paying of the amount of $ 10,000 you will have the opportunity to trade cars worth $ 100,000 i.e. ten cars at the same time If you earn from every car the amount of $ 2,000 means that your profit on the whole deal (2000 * 10 = $ 20,000) you'll get them all plus your initial investment for the amount of $ 10,000 as a deposit refundable will return to you in the end.. !!
Is this possible?
Yes possible... This happens in hundreds of millions dollars every day in the financial markets by margin trading system.
Did you know now how millions be made?!
Back to our example:
In the beginning we mentioned the ordinary trading which was in the following form:
You make a purchase by the payment for the entire value of the car.
You go to the market and offer it up for sale.
You sold.
If your car is sold at a higher price than the purchase price you will be a winner, but If sold it at a price lower than the purchase price you will be a loser.
But when you have traded by the margin, this is what happened:
You buy from the vehicles agency which leverages your capital ten times so that you pay a  $ 1,000 refundable and you be a temporarily owner of the car until it is sold and then you pay the rest of money.
  When you pay the $ 1,000 they allowed you to trade a car worth $ 10, 000, it means trading with value of ten times your capital.
You went to the market and offered your car for sale.
You sold it by ordering the agency to sell the car which temporarily owned by you - and booked in your name to the buyer who found him in the market and at a price that you specify.
The agency sold the car to the buyer, and then deducted its original value - which is $ 10,000 and gave you the rest as profit plus the initial deposit you have paid at the beginning.
Note here...
That when the agency leveraged your capital ten folds, they did that to give you the opportunity to trade the car (a commodity) worth more than 10 times the value of what you paid ,hoping to pay  the rest of the value of the car after you sell it, i.e. when you paid the amount of $ 1000 and became a temporarily owner of the car you become indebted to the Agency in the amount of $ 10,000  until you pay the full value of the car, where the amount of $ 1,000, which is paid at first is only a refundable  deposit.
If you order the agency to sell the car at a price of $ 12,000, they will execute the trade and will deduct the $ 10,000 value of the car and you will pay back $ 1000 you have paid plus $ 2,000 which is your profit in trading.
But what if the car is sold at a price lower than the purchase price?
What if you sold it at $ 8,000 USD, for example?
You must pay the rest of the value of the car from your own pocket, which is $ 2,000 and then recover your deposit you paid.
The agency does not share your profit and they do not also share your loss.
Whether you win or lose, they only asking you to pay the full value of the vehicle after the sale, if you ordered them to sell the car at a higher price than the purchase price they will deduce the value of the car and then you are given your deposit plus a full profit.
If you ordered them to sell the car for less than the purchase price, you must pay the rest of the value of the car from your own pocket and this amount will be your loss in this trade.
In the previous example, when the vehicle is sold in the amount of $ 8,000 then you will add from your pocket amount of $ 2,000 to become the amount of $ 10,000 and you the one to bear the loss rather than agency , and in all cases, you will be refunded your deposit paid at first.
But why we don’t deceive agency?!
Well: When we started dealing with agency that allow us to leverage the capital ten folds everything that we have paid is the amount of $ 1,000, and when commanded the agency to sell the car at a price of $ 12,000 - after that we found a buyer at this price - the Agency to sell the car at a price that we set and returned us deposit plus a full profit.
If we ordered them to sell the car at a price of $ 8,000 we will not add anything from our pocket since all that the agency have is $ 1,000, so we will make the agency bears the loss ..
So you will not pay anything ... We'll run away...!!
But this actually does not happen, the agency dealing with margin has a special system that we can explain in one sentence:
You must deposit the maximum amount to be lost in the deal before you start the trade.
How so?
In order to give you a chance to trade with margin trading system which allows you to work ten-folds you investment, the agency will require the following:
To open the account and deposit the amount of $ 3,000, for example.
This amount will be deposited in advance at the agency.
Agency will leverage your capital ten times and will allow you to trade a commodity by just paying 1/10 of its original value.
You will purchase a car, and only pay $1000 (refundable) of the original value which is $10000.
When you buy the car they will deduct $ 1,000 from your account and we will call this "the used margin”. And Will remain in your account now $ 2,000 unused we will call this “the usable margin." This amount will be the maximum amount you can lose in the trade.
Thus, the agency ensures that you will bear the loss if it occurred and not them, and will not be afraid to escape because they have in your account the amount you can afford if you lose.
When you order the agency to sell the car in the amount of $ 12,000 they will sell the car and deduce the $ 10,000 the value of the car and will return your deposit plus full profit and will add to your account then your account has become = $ 5,000.
But if you ordered the agency to sell the car at a lower price than the purchase price say $ 8,000 the Agency will sell the car and then deduce $ 2,000 from your account to complete the rest of the price of the car, and then will return to your account the deposit and your account has become a $ 1,000 only.
Do you know why this method is called "margin trading system"?
What do you understand as well?
Understand that you can not in any deal lose more than the amount in your account at the company that allows you to trade on a margin account.


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