Definition of margin
Margin is defined as the amount of money required in your account to maintain your market positions using leverage. For example, if you are in an open position for $20,000 using a 100:1 margin, then your account balance should be no less than 1% of that amount. This is simply because you can usually trade up to 100 times the money you actually have. Similarly, if your broker require a 2% margin, you have a 50:1 leverage. The calculation for leverage is:
Leverage = 100 / Margin Percentage
In other words, margin is a courtesy deposit needed to access a leveraging facility in forex. Your deposit is also known as an initial margin or initial deposit.Say, you have $100 in your account and your leverage is 100:1. This means that you can trade up to $100,000 worth of currencies. Your account balance will be 'earmarked' and locked for every transaction that you make leading to the $100,000 mark. So if you hold a $10,000 open position, $100 of you account balance is tied up as a security to your broker. This is known as a maintenance margin. You can now trade the remaining $90,000 leverage inclusive of your $900 balance. Similarly, once you close position, your 'earmarked' money will be free for use again.
When the level of maintenence margin drop below the required level, a margin call will be issued by your broker to bring the level up again. In this event, an investor have two options, that is to top up his account balance or to liquidate his trades to meet the requirement. This usually happens when an investor suffer losses in an open position, resulting in brokerage firm seeking some form of security.
According to authors John Jagerson and S. Wade Hansen of the book 'Profiting With Forex', "Most dealers require you to set aside somewhere around $100 per contract in a mini account or $1,000 per contract in a full-size account. Where many investors get confused is that they believe the $100 or the $1000 they have set aside is the maximum amount they can lose in the trade. This couldn't be farther from the truth."
Taking from the previous example, the maximum amount you can lose if you enter a contract of $10,000 with a margin of 100:1 is not the actual locked amount of $100 in your account, but the entire $10,000 traded. Hence, just like an investor is able to enjoy 100 times of profit, one also stand to lose 100 times one's money. Because of this, margin should be used wisely and moderately along with safety precaution such as using a stop-loss order.