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Leverage is a financial tool that allows an individual to increase their market exposure to a point that exceeds their actual investment. For example, a trader goes long 10000 units of the USD/JPY, with $1,000 dollars of equity in their account.

The USD/JPY trade is equivalent to controlling $10,000. Because the trade is 10 times larger than the equity in the trader’s account, the account is said to be leveraged 10 times or 10:1.

What is Leverage?

Had the trader bought 20,000 units of the USD/JPY, which is equivalent to $20,000, their account would have been leveraged 20:1.

What is Leverage?

Leverage allows an individual to control larger trade sizes. Traders will use this tool as a way to magnify their returns. It’s imperative to stress, that losses are also magnified when leverage is used. Therefore, it is important to understand that leverage needs to be controlled.

Next: How to Determine Effective Leverage

---Written by Jeremy Wagner, Lead Trading Instructor, DailyFX Education

To contact Jeremy, email Follow me on Twitter at @JWagnerFXTrader.