What Is Margin?
Margin can be thought of as a good faith deposit required to maintain open positions.
This is not a fee or a transaction cost, it is simply a portion of your account equity set aside and allocated as a margin deposit.
Margin requirements (per 10K lot) are determined by taking a percentage of the notional trade size plus a small cushion.
A cushion is added to help alleviate daily/weekly fluctuations.
Why Trade on Margin?
Trading on Margin (Trading with Leverage) is a common attraction of the forex market.
It allows you to open trades that are larger than the capital in your account.
Why You Have to Use Lower Margin (Leverage)?
When you use excessive leverage, a few losing trades can quickly offset many winning trades.
To clearly see how this can happen, consider the following example:
Scenario: Trader A buys 50 lots of USD/JPY while Trader B buys 5 lots of USD/JPY.
Questions: What happens to Trader A and Trader B account equity when the USD/JPY price falls 100 pips against them?
Answer: Trader A loses 41.5% and Trader B loses 4.15% of their account equity.
By using lower leverage, Trader B drastically reduces the dollar drawdown of a 100 pip loss.