Hedging in a Negative Margin
Hedging as a strategy involves maintaining an opposing position in an asset. For instance, if a trader holds a long position in EUR/USD with one lot, they would open an equivalent short position in EUR/USD with one lot. It’s essential to note that for one lot of trading in this currency pair, a margin of $1000 is required (the margin figure can vary based on leverage), regardless of whether it’s a buy or sell position.
While at market maker brokers, if you have a long position and simultaneously need to open a short position, you require an additional margin of one thousand dollars. This means that if you need to have both a buy and sell position for EUR/USD at the same time, you would need two thousand dollars in capital, considering the mentioned margin. Now, this figure for NDD brokers is the same as the initial margin, meaning you pay the same one thousand dollars to open both a buy and sell trade on EUR/USD simultaneously.
This allows you to open positions in the opposite direction with the same trade volume when your account potentially incurs a loss and your margin level becomes negative. For instance, if you have opened two lots of long positions on EUR/USD, and EUR/USD decreases in value, causing your account to incur a loss and your free margin to become negative, in this situation, with a market maker broker, you would either have to accept the loss and close your trade or fund your account.
However, an NDD broker allows you to open a sell trade with the same volume on your account until you find a suitable moment to close one side of your trade or make another decision. This can prevent your account from margin calls in all market conditions, whether it’s highly volatile or non-volatile.
On the contrary, a market maker broker in such situations cannot rescue your account from risk unless the trader funds their account to bear the loss, has enough funds to open a new trade or accepts the loss. Despite knowing that the trade was correct, the trader may incur a loss due to inadequate capital management or incorrect entry points. Note that this is referred as Hedging in a Negative Margin in NDD brokers.
In conclusion, Hedging in a Negative Margin in a simple definition means executing a trade in the opposite direction in critical situations while not having sufficient margin in the account without funding the account in crisis conditions.