Microtrading is the practice of using micro accounts in trading. Since the capital required to fund a microtrading account is smaller, it is an appealing trading method for retail investors. It is a widely used strategy in Forex, although it can be applied to stocks, options, and futures. When it comes to stocks, fractional shares can be an interesting choice for microtrading.
Microtrading involves trading micro-lots that require a low initial investment. Therefore it is an enticing proposition. It can also be very useful for traders that are learning. This avoids blowing up large-sized accounts, and incurring extreme losses.
It offers easy market access to small investors that isn’t easy with standard or mini accounts.
What is Microtrading?
When traders are first starting out they might not have a lot of capital to deploy. They might also not want to risk a lot of their own funds, and therefore they use Microtrading. Usually, trading accounts are separated into 3 types:
Trading accounts dedicated to Forex offer a standardized form of currency pairs called “lots”. The size of a lot is different for all three accounts. A standard lot comprises 100,000 units, a mini lot is 10,000 units, and a micro lot is 1,000 units of currency.
A micro lot is usually the smallest trading lot offered by forex brokers. Micro account trading or simply micro trading is a useful tool for small and novice traders because it allows them to speculate without the risk of losing large sums of money.
How does microtrading work?
Microtrading requires a brokerage account. So before you even consider starting you need to open an account with a broker. The documentation requirements would largely be the same for a microtrading account as other trading accounts.
The most significant difference for a micro account will be the minimum deposit requirement. Depending on the broker you will have to deposit a considerable sum just to be able to start trading. However, there are several brokers that are ideal for smaller traders. As it allows them to deposit fewer funds, and you can then microtrade. Generally, microtrading accounts require as low as $50 as an initial deposit.
Forex trading is the most leveraged type of trading. Therefore, a trader is able to undertake larger trades with low initial deposits. Forex micro accounts offer leverage ratios from 2:1 to 50:1 depending on the broker you choose.
Thus, to trade one micro lot (for $ 1,000), a trader would usually require around $500 in the account or as low as $20, depending on how much lever he chooses to take. Using higher leverage traders are also able to microtrade with a lower initial deposit requirement.
A micro lot pip value is $ 0.10. If an investor trades 5 micro lots, the trade is worth $0.50 pips. It means if the currency pair gains 10 pips, the investor will make $5. Conversely, the risk of loss will also be $5 on this trade.
Low deposit requirements and the use of leverage mean amplified returns. However, it also means the trader’s risk of losing money is higher. Leverage is a double-edged sword, and traders should be aware of that.
Important points to remember with microtrading
Low initial deposits, small lot size, and the use of leverage are some of the main features of microtrading. Traders can use small investments to trade Forex pairs and other products, such as stocks, options, and futures. However, as an investor, you must consider a few key points with micro account trading.
In some jurisdictions, regulatory authorities may impose a limit on leverage levels offered by brokers. For instance, in the US the forex leverage limit is 50:1. Therefore the possible nominal returns you will be able to generate will not be life-changing.
As an investor, you must understand that the use of leverage also amplifies the risk of loss. However, with micro accounts, the risks are lower as compared to mini or standard accounts.
Advantages of microtrading
The foremost advantage of micro trading is the access to trading for retail investors. Retail investors can start trading with as low as $50 investment using micro accounts and utilizing the leverage.
Microtrading also allows traders to improve their trading, or try different strategies and approaches to see if they work. The same can be done with a paper trading account, but if you want to trade with a small sum of money microtrading is a solution.
Microtrading is suitable for novice traders in the sense that it reduces the risk of losses. Professional traders can also use micro accounts to control their risk exposure or to experiment with different trading approaches.
Although the profits a trader can make using a microtrading account are small, the use of leverage can actually result in sizeable returns. Another advantage is that a trader might use a micro account in order to have more trades that would be more costly in a regular-sized account. Microtraders are also able to execute higher-risk trades that they would not do with a large account.
Disadvantages of microtrading
Microtrading has its risks, just like any type of trading. The ability to generate large profits with microtrading is limited. Due to the small size of the account, and the small lots traded it is difficult if not impossible to make a sizeable return. A micro trader also needs to execute several transactions to make substantial profits that can be risky.
Another disadvantage is the dependency on leverage as micro accounts offer small lot sizes. Thus, when a trader is trying to generate sizeable profits, it may also amplify its losses.
Microtrading requires skills and expertise just like trading. Micro traders depend on small pip movements to make quick profits, therefore just like trading volatility is required in order to generate a return. With lower micro account size and leverage restrictions, a trader may have higher transaction costs.
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