Paper Trading
A form of simulated trading where no real money is involved
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What is Paper Trading?
Paper trading is a form of simulated trading where an individual makes trades without committing real money. This is done by writing the trade on paper (hence the term “paper trading”) rather than placing a real order through a brokerage.
Summary
- Paper trading is a form of simulated trading where no real money is involved.
- It is frequently used by first-time traders to gain trading experience or by veteran traders to test strategies.
- Paper trading is inherently different from live trading due to the fact that the former does not invoke emotions that would be felt when actually trading.
Understanding Paper Trading
Paper trading is frequently used by first-time traders to practice trading or by veteran traders to test whether their trading strategies have merit.
In paper trading, instead of placing real orders at a brokerage, the trader would write down the time and size of their hypothetical buy and sell orders on paper and track subsequent gains/losses. It allows a trader to practice buying and selling securities and gauge their performance without putting their capital at risk.
With the development of online trading platforms, many online brokers (such as Interactive Brokers, Thinkorswim by TD Ameritrade, etc.) offer clients paper trading simulators. Such simulators allow traders to easily practice trading in the markets without the tedious process of having to write the trades on paper.
Advantages of Paper Trading
Paper trading offers the following advantages:
Disadvantages of Paper Trading
The following are disadvantages to consider when paper trading:
How to Increase the Effectiveness of Paper Trading?
Paper trading is inherently different from live trading. As a result, a simple guideline to increase the effectiveness of paper trading is to treat it as a real trading account. For example:
- Using a similar amount of virtual money in the paper trading account as you realistically would in a real trading account.
- Conducting the same amount of research when paper trading securities as you would if you were trading those securities on a real trading account.
- Recording everything about your trades, including the investment thesis for making the trade, the trade exit price, and the rationale behind the trade exit price.
Additional Resources
Thank you for reading CFI’S guide to Paper Trading. To keep learning and advancing your career, the following resources will be helpful:
