Got tired of asking dumb questions in the daily and decided to make my own guide to : Leverage/Margin Trading! Here’s everything I’ve learned in Q&A format, explained as simply as possible (including an explanation of various terms, risks and benefits, and a comparison with good ol’ hodling)

“When you combine ignorance and leverage, you get some pretty interesting results.” –Einstein

“Margin trading is certainly not suitable for beginners.” –some dumbass probably

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So, you want to try leverage trading huh? I had the same idea, make big gains with the small risk of losing it all? What could possibly go wrong?

Because I like to do my research before making terrible decisions that would make me lose my money anyway, I thought I could save you the effort by sharing my ground-breaking findings. Now without further ado, buckle up because this is gonna be a bit long.

ps: Click on the spoilers to expand some extras.

Note: margin trading used interchangeably with leverage trading here.

1- What is leverage trading and how does it work?

As the word ‘leverage’ indicates, leverage trading means using borrowed money to get higher returns on your initial investment. You’re essentially opening a position that’s much larger than what’s actually in your balance, and the difference is borrowed. At this point you might be wondering where the money comes from. If this was the stock market, your broker will be lending you that $$. But in our case, the money usually comes from other traders (this is called margin funding and can make you money) and occasionally, from an exchange. Seems pretty straightforward so far? Keep reading.

How it works: You commit a certain amount of money, which depends on the leverage you want to get, and that sum is known as your initial or used margin. The rest of the money will be borrowed. So a 2x or 2:1 leverage means that for each $1 or initial margin you put in, you get $1 of borrowed margin. So an initial margin of $100 will get you a total of $200 in your open position. If you make profits and close your position (ie sell), the amount you borrowed + interest will be deducted and you of course get to keep the profits. If your chosen coin falls in value however, a number of things could happen. If your margin level falls below the margin liquidation level, you get (you guessed it) liquidated. If you’re wondering what all those words mean, keep reading!

I still didn’t get it…Eli5?

Suppose u/toteslegitguy messaged you about this amazing coin that’s definitely gonna moon tomorrow and you decide it’s time to say goodbye to your shitty 8 BC Camry and get that lambo you deserve. According to a youtube cryptocurrency expert, said coin is going to do a x100. You do the math and decide you need to buy $5000 of safelambocoin. Problem is, you only have $1000 because you blew all your money chasing pumps. No worries! You find out you can borrow money to fuel your responsible investment habits with Leverage Trading. So you choose to go with a 5x position, which means you get a position 5 times your initial investment, which we call the initial margin ( $1000). In this case your leverage will be 5:1 or 5x. You will end up with a position of $5000, $4000 of which is borrowed. In the imaginary scenario where your coin actually moons x100, you end up with $500000 worth of shitcoin instead of the $100000 you would have made with your $1000. Do keep in mind that you need to repay the $4000 + interest and fees. Nevertheless, sweet deal right? Keep reading.

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2- What is liquidation?

Ah, now we’re talking risks. Liquidation is often referred to as “money go poof,” which is a subtle nod to the sound of your money vanishing like a father on his way to go buy cigarettes. There are actually several types of liquidation events, but for simplicity we will consider full liquidation here as a hypothetical. Simply speaking, liquidation is having your positions closed to avoid losses to the exchange/lender. In our case, that means your coins are sold and the initial margin you put in is lost. This happens at the liquidation price, and is usually preceded by a margin call, which is a warning from the exchange that you should add more margin/ close the position or else get liquidated.

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3- What is the liquidation price and how can I calculate it?

The liquidation price is the price at which you get….liquidated. If you’re using futures, for a long position you’d get liquidated below the liquidation price, and above it for a short (What is a long and a short? Answer: Short: a way to profit off the falling price of a coin. Essentially, you borrow a coin, sell it, wait for the price to drop, and buy it back cheaper, then repay the exchange, the price difference makes your profit. Long: You expect the price to rise. So you buy a coin with borrowed money and sell when it hits a higher price ). Note that the higher the leverage, the easier it is to get liquidated as the liquidation price will be closer to the price you entered at.

I’m not going to delve into calculations because they are complicated and because most self-respecting exchanges calculate it for you. Just bear in mind that although you’ll often get a margin call before the liquidation, it might not be delivered on time so always check your margin level and the price regularly and set price alerts and stop-loss if you must.

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Example?

Here’s a nice example from binance: Your initial margin is $50 and you decide to open a long position for BTC with a 10:1 or 10x leverage, so that means your total position is $500 and you borrowed $450 out of that $500. Let’s say that BTC falls 10%, that’s $500 – (0.1 x 500)= $450. So in this case, the exchange can’t allow you to continue incurring losses because the trader who lent you the money will be losing. Therefore, you get liquidated. This is a simplified example of course which doesn’t take into account fees and interest.

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4- What are Isolated and cross margins?

Cross: Your margin balance is shared across all of your open orders. What this means simply speaking, is that the exchange could use your entire account balance, not just your initial margin, to avoid liquidation. The disadvantage of this is obvious, you’re risking your entire balance if you end up making really shitty trades.

Isolated: This limits your liability to the initial margin you pledged as collateral. In other words, if you get liquidated, you only risk the margin of a particular position, not your entire account balance.

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5- What is a Margin level?

Margin levels tell you how close you are to getting liquidated and are usually calculated by the exchange according to your total account or your position, depending on whether you are using cross or isolated margin. It also decides whether you can trade, borrow, or transfer funds to your wallet. You can increase your margin level by adding more money to a position or to your balance. In Binance for example, a 1.3 margin level causes a margin call, and at 1.1 you get liquidated. Other exchanges may use different definitions or use percentages. On Kraken it seems margin level is calculated as Margin level = (equity ÷ used margin)×100 and liquidation happens at 80%. Because of this, familiarize yourself with how your exchange defines margin level.

If you are curious about how margin levels are calculated, here's a useful link.

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6– Can leverage trading change my life?

Yes. You can make incredible profits, or, more probably, lose a lot of money, which is pretty darn life changing if you used money you can't afford to lose. Read on to find out some precautions you can take to avoid the latter happening.

7- How can I avoid getting liquidated?

There is a whole lot of advice out there on how to avoid getting liquidated, but what’s the fun in making responsible financial decisions right? In case a sensible person happens to be reading this, here’s a few important pointers to keep in mind at all times when margin trading:

*Set your goals and take your profits. When you’re leverage trading, there’s no chance for “holding through the dip” with someone else’s money. You’re getting liquidated bud. So set a goal for how much you expect from each trade and how many trades you intend to make, and please take your diamond hands and shove them- oops where was I? Oh yeah and take profits dumbass. The biggest reason people lose money in leverage trading is GREED.

*STOP-LOSSES: check the liquidation price and set a stop loss order to close your position before liquidation (do NOT set the liquidation price as the stop loss!). You would still lose some money obviously, but nowhere as bad as a full liquidation, which would also have fees. Wondering what a stop loss order is? Don’t worry, I won’t ask you to google it. A stop loss order is a way of closing your position (whether long or short) at a specific price. So if you have a long position for example, you can set a stop-loss to sell at a certain price to minimize your losses.

*Monitor your margin level. Yes you, hunched over like a banana and staring at the charts, it won’t hurt to give your margin level some attention too! Don’t count on your margin call to arrive right in time, crypto markets are volatile and things can go from 0 to 100 reaaal quick.

*Start small! Again, it’s easy to think about all the potential profits and get greedy, but if you’re a beginner, start with small trades and a 2x leverage to get practice before making serious trades.

*Stay up to date. This seems obvious, but don’t just look at the charts, check out any news- updates, projects, lawsuits- that could significantly impact the price. Do your research on the coin you’re buying before committing to a position unless you’re day trading and think your crystal ball TA is good enough.

*Don’t use a ridiculously high leverage like x125 if you aren’t ready to lose your margin. Remember that high leverages get liquidated more easily so set your stop losses and study the market before opening your position.

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8- Where can I leverage trade?

Here’s a list with some popular platforms, please DYOR before signing up:

Binance, Kraken, BitMEX, FTX, ByBit.

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9- Can I try leverage trading without risking any losses?

As discussed previously, there are many ways to lose your money with leverage, but there are also many mechanisms and procedures you can take to protect your money from going bye bye. With leverage trading there is always a risk of loss, and sometimes you have to accept your losses and close a position to avoid liquidation. But if you stay levelheaded and avoid greed (laughs nervously), you will hopefully make more successful trades than losses.

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10- Leverage vs buying and holding?

If you want a “which is better” comparison, then that will be very subjective and probably not useful. Everyone and their grandma will immediately come out of the woodwork to tell you that hodling saved their wife’s boyfriend’s cousin’s dog’s life and that leverage trading is the devil. But I’m here to give you an objective comparison and leave it for you to decide which way of "investing" suits you.

Risk and benefit: How much are you willing to risk? With a leveraged trade, you risk more than just losses, but your entire position or even balance are at risk of liquidation. The benefits are also amplified of course, which is what makes leverage so attractive- making profit you wouldn’t dream of with your capital. Is the risk worth it for you? This seems like gambling, doesn’t it? Many see it as exactly that. I think it’s more nuanced than that, but the comparison is a good indication of how risky it is.

Here’s something to keep in mind: holding is less risky, but less rewarding. Is that a compromise you want or need to make? Think of your goals and circumstances.

Your goals and circumstances: Although it might depend on how much money you are willing to put in, generally speaking, buying and holding is a relatively long term affair, especially if you are looking for large profits with a limited capital. I think there are many people here that would relate to having such limited funds that even a twice or threefold increase would not be a life changing profit. Of course, the larger profit from leveraging comes with a larger risk.

The timescale can also be important to many, so if you need extra money in short notice, leveraging may be more suitable.

Your attitude: Some of what I may say here may be subjective. With leverage trading, there is more at stake, so a lot of nerves, and you need to be more engaged and updated on the state of your position regularly than if you were holding long term. If you can’t handle that kind of stress, and the stress from risking the entire position, then leverage is probably not for you. If you want to buy and just forget about it, then holding is the way to go. Furthermore, if you tend to trade in an impulsive and unplanned manner, you will find difficulty managing successful margin trades. Greed is another one, but we are usually less self-aware about that. Give it some thought, are you able to feel content about your profit and sell? Or do you keep wanting more?

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Finally, I hope this guide helps you Reader, whether you are new to trading or crypto in general, or a veteran checking in to scrutinize my text. Please let me know if there's anything unclear or misleading, or any way I could have improved this guide, and if there a tidbit of info that you would like to share, we will all appreciate that- we're all here to learn after all.

Tldr: Leverage allows you to make larger profits but comes with larger risks. Use stop losses and take profits to avoid liquidation and don't be too greedy.