Financial markets move quickly. Sometimes, these movements can be unexpected, and when you’re exposed to a position, you can quickly find yourself on the receiving end of some pretty heavy losses. The same applies on the upside of course, and traders can find themselves profiting wildly from highly volatile markets. But when things take a turn for the worse, it’s important to ensure you’re protected from the potential liabilities that come from your trading.
Especially when you’re trading leveraged instruments, or in markets where movements in underlying price can be vast, protecting against the downside risks is often the difference between trading life and death, in figurative terms.
One of the key benefits of many regulated brokers is negative balance protection, designed to protect against the risks inherent in trading fast-moving financial markets. But what is negative balance protection, and how does it work in practice?
What is Negative Balance Protection?
Negative balance protection is a guarantee that traders cannot lose more than the balance on their account. If you have a balance for spread betting, forex or trading CFDs and negative balance protection is in place, you cannot lose more than the total of your capital on the platform – even if your position falls to a value below zero.
Negative balance protection is available as a right to traders doing business with brokers in the ESMA region. While this is an EU-wide block, it includes the UK – such that traders dealing with regulated brokers in the UK will be afforded the same protection.
In the event you find yourself on the losing side of a trade, the broker will call for margin rapidly to prevent you from sliding into negative territory. When this cannot be met, the position will be automatically closed on your behalf to protect against losses.
If your account slips into negative territory, the broker is obliged to make it up to zero, such that you cannot incur debts from losing trading positions. Negative balance protection prevents traders running up a debt to the broker when their positions head south.
The Benefits of Negative Balance Protection
Leveraged trading has a lot of benefits – not least the chance to make significant profits when your trades go well. But on the downside, you can also see your entire trading account wiped by one or two bad trades. Especially if these are left to run unchecked, the potential for losses to accrue is a real and present concern at all times when trading leveraged instruments.
Negative balance protection is a guarantee that you will never end up owing more than your invested capital when you trade with regulated brokers. Even if your position would otherwise end up losing a lot of money, negative balance protection puts an ultimate stop on the amount you’re liable for at a zero balance in your account – put simply, you’re protected against running up a negative balance with your broker.
In practice, losing positions will be called quickly, and if you don’t have the funds in place to support losses, your positions will be automatically closed by the broker. When negative balance protection is in place, it’s in the broker’s interests (as well as your interests) to prevent losing positions from doing too much damage. As a result, losing positions will be closed automatically when the margin cannot be met by the funds in account.
Is Negative Balance Protection Guaranteed?
This is where doing your homework really matters. For all many brokers will claim to offer negative balance protection, the reality can sometimes be a different story. Choosing the wrong broker can leave you on the hook for your liabilities, even when you thought these were levelled at zero.
As a basic rule, look for regulated, reputable brokers who guarantee negative balance protection when choosing where to trade. Retail brokers who have a long track record in the industry tend to be the safest bet here, giving you the reassurance you need to know that they mean what they say. Avoid dodgy brokers, or those that haven’t been around long enough to have established their track record. For all their claims, you may find yourself owing more than the capital you put in when negative balance protection is not guaranteed.
Note that negative balance protection only applies to retail traders. Professional traders are still liable for losses beyond the amount of capital held in their account.