The Pitfalls of Demo Trading

01/13/2014 9:00 am EST

Focus: FOREX

While a demo account is an ideal environment to gain the experience you'll need in order to succeed as a trader, you must also be aware of its limitations, notes the staff at FXTM.

Every golfer knows the experience of “leaving their best shots on the range”—hitting crisp, gorgeous shots on the driving range before a round and then playing poorly on the course. There is a world of difference between whacking drivers into a large open field and hitting tee shots down a tree-lined fairway. And that wedge shot becomes a whole lot more difficult when the match is on the line on the 18th hole than it was warming up on the driving range.

The variable is the stakes involved in the game. The difference between trading in a demo account and trading in an active account funded with your real dollars is the difference between hitting balls at the driving range and shooting a score on a real golf course.

Demo trading is not without its benefits. Just as you wouldn’t expect to succeed on the golf course without first learning the game and practicing at the range, you wouldn’t expect to be a successful trader without knowing the terminology and mechanisms of a market. A demo account is an ideal environment to gain that experience.

A demo account attempts to replicate real markets and it operates in simulated market environments. You will typically begin with an imaginary stake—say, $50,000 of virtual money—and you can make live buy and sell trades. You can test strategies and track wins and losses while collecting real-life data for analysis. There are many places to try demo trading online and you can play markets in real-time. For the forex market that means 24 hours a day, five days a week.

But there are dangers inherent in demo trading. Anything less than total discipline and seriousness will contaminate the process and negate the value of the make-believe experience. It is extremely difficult to maintain the same level of commitment to an imaginary account as it is when your real money is in the game. The emotional swings involved in real-time trading can simply not be replicated in demo trading.

Until you face real financial harm, you will never truly know yourself as a trader. You can gain all the technical knowledge out there but unless you make trades with the real potential for loss, you can never gain a feel for what kind of trader you are. Learning how to manage your emotions is often more important than technical know-how when trading in real markets.

Your test results will also be skewed by the differences inherent between demo trading and real accounts, such as dependence on real-time liquidity and the trading of products that may not be available on live accounts. Margin requirements will differ from live accounts as well since updates to demo accounts will not always line up with live accounts.

Demo trading can be a great tool to learn the ins and outs of trading in a market but it is nothing more than that—you won’t be a trader until you apply those tools in a real account.

By the Staff at FXTM

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