What does a 5% move do at 20x leverage?
It ends the account. Not damages it — ends it. This lesson is the arithmetic behind that sentence, and it is arithmetic rather than opinion, which is why it belongs at the end of a derivatives course rather than in a warning box nobody reads.
The ruin identity
Your equity is wiped out when the loss on the notional equals your margin. Since notional = L × margin:
Adverse move that wipes out equity = 1 ÷ L
| Leverage | Move to total loss | Move to a 50% margin close-out |
|---|---|---|
| 2:1 | 50% | 25% |
| 5:1 | 20% | 10% |
| 10:1 | 10% | 5% |
| 20:1 | 5% | 2.5% |
| 30:1 | 3.3% | 1.7% |
| 50:1 | 2% | 1% |
The right-hand column is the one that actually governs, because close-out arrives first. At 20:1, a 2.5% move against you — a move that a liquid large-cap makes on a completely unremarkable Tuesday — closes the position. At 30:1, it's 1.7%.
Three things the table leaves out, all of which make it worse
1. Financing runs against you the whole time. At 20:1 with 7% all-in financing, the annual cost is 20 × 7% = 140% of your margin per year. The position is losing 0.38% of your capital per day before the market has an opinion. Leverage multiplies the carry as faithfully as it multiplies the gain.
2. Recovery is not symmetric. The gain required to get back to even after a drawdown D is D ÷ (1 − D):
| Drawdown | Gain needed to recover |
|---|---|
| −20% | +25% |
| −50% | +100% |
| −80% | +400% |
| −100% | impossible |
There is no percentage gain that recovers a zero. This is why "total loss" is a different category of event, not just a larger loss.
3. Gaps ignore the table entirely. A close-out at 2.5% assumes a price exists at 2.5%. The previous lesson showed a day when it didn't.
The compound version
Consider a hypothetical account at 20:1 that survives every individual day but loses 3% of equity daily to a combination of financing and small adverse moves. After 30 days: 0.97³⁰ ≈ 0.40 — 60% of the account is gone without a single dramatic event. Leverage does not need a crash. It only needs time and a cost.
The honest framing
None of this says leverage is wrong, and nothing in this course tells anyone what to do. It says something narrower and harder to argue with: leverage is a multiplier applied to every term in the equation — the gain, the loss, the financing, the speed of the close-out, and the size of the gap that ends it. Any claim about a leveraged strategy that quotes only the first term is quoting a quarter of the arithmetic.
Try it now
- Five years of a liquid instrument is below, as daily candles. Count the sessions that fell 2.5% or more — that is the 20:1 close-out threshold. Measure the ones you are unsure about.
- Divide that count by the number of trading days on screen (roughly 250 a year). That percentage is roughly the daily probability of a close-out event at 20:1 from ordinary volatility alone, before any gap, any earnings date and any weekend.
- Compute the annual financing at 20:1 with a 7% rate as a percentage of margin (answer: 140%). Then state, in one sentence, what a position at that leverage must earn annually just to break even.