Margin calls and margin call level
If you are aware of margin call level, our main topic for today, which is stop-out level, is somewhat similar. A margin call is when your margin level reaches a specific price. The margin level is a limit set by your forex broker or trading platform, and it is usually 100%. A portion or all positions are subject to closing and liquidation if the situation is too grave in a margin call.
But what is a stop-out level?
We have mentioned that a stop-out level is somewhat similar to a margin call level. The only difference is that it is worse. This situation is the grave one that we are talking about earlier. If your margin level declines to a certain percentage, your forex broker might have to close or liquidate all your open positions.
Why does a broker need to close the positions? They start at a position that is less likely to gain profit. If the trading account’s margin is too low, it can’t support the open positions anymore. In short, we can call a level a stop-out level when the equity becomes less than a specifically used margin percentage. A broker will try his best to close all the opened positions as quickly as possible to help the trader avoid more losses. If you encounter terms like margin closeout value, the minimum required margin, or liquidation margin, know that these are all synonymous with stop-out level.
So, what is the difference between a stop-out level and a stop-out?
We have already defined what a stop-out level means earlier. A stop out is the forex broker’s action of closing positions. It is almost impossible to halt a stop out once it started because the liquidation process is automated. Not even the customer service can provide help.
Let us cite an example with a stop out level of 30%
Let us assume that you deposited $1,000 in your account, and your forex broker set a margin call level of 100% and a stop-out level of 30%. Your used margin is $200. Now, as you are trading, you suddenly received a margin call from your forex broker through a text message saying that your margin level reached 100%. Since you are new in trading and do not know what a margin call means, you decided not to pay too much attention. So, you did not deposit more funds. Here is the bad news, the market continued to worsen. Now, you have an unrealized loss of $900.
Your equity is now:
Equity = balance * unrealized P/L
$50 = $1,000 – $950
Your margin level is now:
Margin level = (Equity/ used margin) * 100%
25% = ($50/ $200)* 100%
Let us explain what happened there
Since you have way lower than the stop-out level, which is 30%, your forex broker will close your open positions to avoid further losses. Upon closing ranks, the used margin is not locked any more, so you can use them to make a new trade. If you have multiple positions open, then the broker will close the one that is less likely to profit and proceed to close the other positions if the margin level is not yet more than 30%.