A margin call is generated when the equity balance in an account drops below the margin requirement for the account. If the maximum allowable leverage has been exceeded, any open positions are immediately liquidated (Stop Out), regardless of the nature or the size of the positions. Usually the biggest position is liquidated first.
Margin calls occur most frequently from excessive leverage on an account. You want to manage your leverage carefully so that your positions can handle fluctuating market moves. The more leverage you use (too many trades open at a time or trades too large) the faster your losses can accumulate.
BREAKING DOWN 'Margin Call'
A margin call typically arises when an investor borrows money from a broker to make investments. When an investor uses margin to buy or sell securities, he pays for them using a combination of his own funds and borrowed money from a broker. An investor is said to have an equity in the investment, which is equal to the market value of securities minus borrowed funds from the broker. A margin call is triggered when the investor's equity as a percentage of total market value of securities falls below a certain percentage requirement, which is called the maintenance margin. While the maintenance margin percentage can vary among brokers.
A margin call is the term for when a broker requests a maintenance margin from a trader, in order to keep a leveraged trade open.
Margin trades, such as CFDs – require a certain amount of funds to remain open. If a trade loses money and the funds in your account are no longer enough to keep the position open, your provider will ask you to top up your account. This is a margin call.
If you top up funds, the position will remain open. If not, your provider may close the position (Stop Out) and any losses incurred will be realised.
How to Avoid Margin Calls?
Leverage is often and fittingly referred to as a double-edged sword. The purpose of that statement is that the larger leverage you use to hold a trade greater than some large multiple of your account, the less usable margin you have to absorb any losses. The sword only cuts deeper if an over-leveraged trade goes against you as the gains can quickly deplete your account and when your usable margin % hits the limit set by the broker, you will receive a margin call. This only gives further credence to the reason of using protective stops while cutting your losses as short as possible and control your leverage.
What is leverage?
To multiply your capital (to trade with more money than you are able to invest), you can leverage your position. Different brokers offer different leverage rates. For example, if the leverage is 1:20, you can move 20 times more volume (money) than you deposit. Meaning, if you want to buy 100 EUR/USD, you only need to actually have €5. This allows you to get much higher profits, but also higher losses.
What is a margin?
Margin is a collateral (borrower´s pledge to secure the repayment) to cover possible trading losses. For example, if the leverage is 5, and you want to trade $100 you would need to deposit only $20, which is called the margin. The smaller the margin percentage, the more “powerful” the position is.