There are a lot of advantages for jumping into the Forex investing world. For starters, the foreign-exchange investment landscape is truly global. It operates on a 24/7 basis, there are incredibly low transaction costs, and the potential to use leverage to grow your wealth – and set up your financial future – is fantastic.
At the same time, though, like any other investment vehicle there is plenty of risk in the Forex world. The last thing you want to do is find your investment nest egg wiped out completely just because of a handful of trades that went sideways. But how bad can things get, really? Can a Forex account go negative?
Forex accounts can go into a negative balance due to slippage within the markets. This will mean you owe your broker money. Most regulated forex brokers within Europe offer Negative Balance Protection, to protect traders accounts from going negative. Offshore and unregulated brokers do not offer this.
Can a Forex Account Go Negative?
Yes, believe it or not a Forex account can go negative (for a couple of different reasons) – and that’s not a sticky situation you want to find yourself in.
Most of the time, a Forex account will go negative if there was big market news and the spreads between your currency pairs widened out beyond what your stop loss levels were prepared for. This is usually called slippage.
All of a sudden you blow beyond that layer of protection, you can’t close out the points that you headset, and all of a sudden you are sitting on a negative Forex account.
You might also have to deal with this situation if you leave your open orders overnight and the market opens with a larger gap than you anticipated.
This will close out your orders at a significant loss (usually beyond anything that you set up) and now you’re dealing with another negative account situation.
Of course, another reason that your account may go when the negative is if you are trading on a Forex broker that allows hedging to happen – but doesn’t necessarily calculate the margin necessary for your positions that you have hedged.
You might go to close out a winning position (or end a position that looks like it’s on a downward spiral) thinking that you stop the order, but can’t because your margin level and hedge position aren’t jiving.
The end result, you guessed it, another negative account balance!
Do Forex Brokers Offer Negative Balance Protection?
Luckily, the overwhelming majority of legitimate Forex brokers in the industry today (especially those that are regulated by the European Union) are going to offer what’s called “Negative Balance Protection”
Negative Balance Protection, guaranteed under ESMA financial regulations, basically offers retail investors the opportunity to “walk away” from any negative account balances without any penalties and without any punishment.
This very obviously encourages and incentivizes legitimate Forex brokers regulated by bodies in the European Union to put tools in place to either prevent negative balances from happening in the first place or to provide a lot of insight and information to stop these kinds of trades before they unfold.
If, however, a negative account balance sort of “slipped through the cracks” by these regulated organizations the broker themselves are going to have to pony up the money to cover the losses completely.
Obviously, if this happens the chances are pretty good that you’ll have your account closed with that broker and may have a difficult time finding access to another broker in the short term.
At the same time, if you aren’t using a broker regulated within the European Union, you do not have this protection locked right in. Many unregulated and offshore brokers don’t offer any kind of negative balance protection.
In fact, a good friend of mine had to pay their broker a large sum of money to get flat on their account after slippage caused a much larger loss than expected.
Some brokers in other jurisdictions – especially in the United States – also offer Negative Balance Protection, but it isn’t as universally applied as it is in the EU.
This is something that you are going to want to double confirm before you sign up for any Forex broker, regardless of where you are physically located.
Remember, it all comes down to the regulatory bodies overseeing the Forex brokers themselves and not necessarily where you are located on the planet.
Do your level best to move forward only with Forex brokers that offer this kind of protection.
You don’t ever want to wake up one morning to realize that your positions got you into a mountain of debt while you were sleeping.
Avoiding a Negative Balance by Using Risk Management
Of course, it’s important to leverage smart risk management strategies to avoid the potential for negative balances – and the potential for “bad trades” in general.
Every trade is going to carry at least a little bit of risk, but the overwhelming majority of risk factors that Forex investors are going to have to worry about include:
- Transaction exposure
- Translation exposure and
- Economic exposure
Transaction exposure is really the most basic form of risk that Forex investors are going to have to be aware of, and it has to do almost entirely with the kinds of business transactions that are taking place in foreign currencies.
Translation exposure risk factors have to do with the translation and conversion of different financial documents and statements (like Profit and Loss records, for example).
It’s not uncommon for financial records to “look different” when currency values have been changed – some companies, for example, can report growth rates of 10% when they report in USD but that number could drop to 6% or skyrocketed 25% when the raw numbers are translated into a different currency.
Economic exposure (sometimes called operating exposure) is another form of risk that Forex investors will want to account for.
This as a lot more to do with unexpected and often times completely unavoidable currency fluctuations that can be difficult to judge or account for.
Spend time developing strategies to mitigate and manage these risks and you won’t have to worry about negative balance issues as much as someone that is trading blind.
Remember to be sure that the Forex broker you move forward with offers Negative Balance Protection as well and you might not ever have to concern yourself with that nightmare scenario moving forward.
In Conclusion – Can Forex Accounts Go Negative?
Forex accounts can easily go negative due to slippage within the markets causing your stop loss to not be filled at the correct price.
Brokers outside of the European Union don’t have to offer negative balance protection, although it is a relatively common practice. However, Forex brokers within the EU will often times go above and beyond what is required of them by offering Negative Balance Protection on top of all the other protections they must adhere to. To avoid your forex trading account going into a negative balance, you’ll want to use a regulated broker and use a great level of risk management to avoid over leveraging your account.
Has your trading account ever gone into the negative? Let me know in the comments below.