What is paper trading?

Paper trading is more commonly used in an institutional setting. It is what we in the Forex trading or CFD industry call Demo Trading. The term ‘paper trading’ comes from the stock market, where investors who wanted to practise would write their investment ideas on paper and follow the market movements, to see if their ideas panned out.
There are many types of traders, including more short-term and those who keep positions open for the longer term. Common to all new traders is hesitation when it comes to placing trades and of course, concern at losing money from their trading.
Whilst all types of trading come with risks, brokers offer a variety of tools to help first time traders to improve their trading skills before committing real funds. One of these tools is called “paper trading”, although as mentioned you are less likely to hear the term, since we use the term Demo trading.

Advantages of Paper Trading

  • Trading without the risk
    Demo accounts come with many benefits and are widely used by first time traders who want to practice and learn how to trade before they trade with real money. More experienced traders use demo accounts to test out their strategies or to test-drive a new platform they haven’t used before. For new traders it is an excellent way to learn about the market, and most importantly to learn about yourself as a trader. Needless to say, this is a very useful tool in the trading world.
    On the downside though, for a new trader, trading in a simulated environment without committing real funds, feels very different from a real account scenario where real money is at stake. With demo trading, the psychological aspects of trading don’t come into play, like fear and greed.

  • How it Works
    Using a demo account allows first time traders to experience and trade with an account that looks and acts similarly to the real online trading accounts traders use. Demo account users receive an amount of virtual money in the beginning, and can start trading by opening selling and buying positions. Just like a real account, the paper trading account shows market movements on the traders’ screens, so they can decide if they should continue their trade or get out. This all contributes to assessing their actions, learning from them and getting ready to start trading in their real account.
    For demo account users it is not only important to practise on demo accounts, but also to look back at their actions and learn from them. This is also important for more experienced traders, who want to practise on the demo account. They need to check if their trades and strategies proved to be as successful as they had hoped, and of course, they will use this knowledge to optimise their performance on the back of it.

Disadvantages of paper trading

However, there are some risks to paper trading which should not be ignored. Some people would suggest not to begin with a demo account for a number of reasons.

  • Euphoria Trading
    The main one, according to them, is the sense of euphoria paper trading can give. Since there is no real money being used, traders can take risks that they otherwise wouldn’t, thus expanding their profits. A case of money loss, on the other hand, is often not taken very seriously since it’s not real money that’s being lost. There is another disadvantage; since it’s not their money they are trading with, they won’t always follow the market and respond as they would if it was their own money.

  • Delayed Data
    Some demo accounts do not use up-to-date information, but delay it by 15-20 minutes, so competitors do not use the data. Others display fake data, but the main goal remains the same – to get traders ready for the Forex market. On the AvaTrade demo account, the information displayed is in real-time and projects the accurate rates. The tool is very common and used worldwide by brokers on stocks, bonds, commodities etc. Due to the fact that there is not real money that’s been put in, it’s often called “Paper money”, “Monopoly money” etc.

Should you use paper trading?

Should you as a first-time trader use paper trading? Should you open a demo account before trading in the real market?

The answer is yes, as long as you remember how to use it to its best effect. A few simple guidelines can dramatically increase the effectiveness of a demo account.

Here are a few simple guidelines that would dramatically increase the effectiveness of a demo account.

  • Treat it as a proper real account
    This will not only overcome the main obstacle of demo accounts, but will ease the transition from demo account to real accounts. Paper trading might seem easy, but there is an important component missing.
    As mentioned briefly earlier, real trading involves a lot of emotions, which can be a plus since traders are more invested emotionally. But this can lead to negative consequences – emotional trading, with no real thought or research and ending with money loss. Again, with demo trading you may feel the adrenaline rush and the fear or the greed. So as long as you factor this in, the transition from demo to real will be more successful for you.

  • Learn as much as possible
    It is highly recommended to practise on a demo account, whilst simultaneously educating yourself on the market. There are so many free blogs and education portals you can use. Don’t underestimate the importance of a strong understanding of the trading platform and the markets you wish to trade on. Preparation is key. We recommend using the demo account for at least a few days, before switching over. You can also use our trading calculator in order to estimate the possible outcome of a trade before entering it.
    Finally, remember that trading does not suit everyone. Those people that rush to trade without considering the intricacies of the platform or the market may end up disappointed, not to mention ending up with lighter pockets.
    Use paper trading as a mirror to yourself, in order to answer the following questions – am I ready to trade? Is this market suitable for me? If the answers are yes, it is time to open a real account!

Best Practices for Paper Trading

Paper trading is a powerful tool for developing and refining trading strategies without financial risk. However, to truly benefit from it, traders must approach it with structure and discipline.

Set Realistic Trading Goals

Define clear objectives that mirror your live trading aspirations. Whether your focus is on achieving a specific return percentage, improving risk management, or mastering a particular strategy, your goals should align with your broader trading plan.

By setting realistic and measurable targets, you create a structured approach that enhances learning and performance.

Maintain a Trading Journal

A trading journal is an invaluable resource for tracking progress. Record every trade, including the rationale, entry and exit points, market conditions, and outcomes.

Regularly reviewing this journal helps identify patterns, strengths and areas for improvement, allowing for continuous strategy refinement.

Simulate Real-World Conditions

To gain meaningful insights from paper trading, ensure that your practice environment closely resembles live market conditions. This means:

  • Setting a virtual capital amount similar to your intended real trading balance.
  • Accounting for transaction costs like spreads, commissions and slippage.
  • Avoiding unrealistic execution fills that wouldn’t occur in a live market.

By treating paper trading as if it were real, traders can build confidence and develop habits that translate effectively into live markets.

Common Mistakes to Avoid

While paper trading offers a risk-free learning environment, approaching it incorrectly can lead to bad habits. Here are some pitfalls to avoid:

Overtrading Without a Strategy

Since there’s no real capital at stake, traders sometimes place excessive trades without a well-defined plan.

This can lead to reckless decision-making that doesn’t align with real-world trading discipline. Establishing a structured strategy and sticking to it is crucial for effective learning.

Ignoring Transaction Costs

Live trading comes with costs like spreads, commissions and slippage that impact profitability. Traders who overlook these elements in paper trading may develop unrealistic expectations when transitioning to a live account. Always factor in these costs to ensure accurate performance evaluation.

Emotional Detachment

A common misconception is that emotions don’t play a role in paper trading. However, dismissing the psychological aspect can be counterproductive. Traders who don’t take paper trading seriously may struggle to manage emotions when real money is at risk.

By instilling discipline from the start, traders can cultivate a mindset that supports long-term success.

Paper trading account

So now it’s time for you to open a paper trading account. Start testing out the different trading strategies and techniques we talk about in our education section. You can start by identifying trends and then using simple moving averages, before moving up.

Try and spot your own emotional reactions to different trade outcomes, as understanding how this affects your trades will be a massive advantage in improving your skill level prior to risking real money.

Transitioning to Live Trading

Moving from paper trading to a live account is a significant step that requires careful preparation.

Start Small

Begin with a modest amount of real capital to experience the psychological impact of risk while keeping potential losses manageable.

As your confidence and consistency grow, gradually increase position sizes to align with your trading plan.

Manage Emotions Effectively

The biggest shift when moving to live trading is dealing with emotions, especially fear and greed, which can influence decision-making.

While paper trading helps refine technical skills, it cannot fully replicate the psychological pressures of real trading. Sticking to a predefined strategy and practising emotional control is essential.

Reassess Risk Management

Risk management should be a top priority when transitioning to live trading. Implement strategies such as:

  • Stop-loss orders to protect against excessive losses.
  • Position sizing techniques to control exposure.
  • Realistic profit targets to ensure sustainable growth.

By making the transition gradually and with a disciplined mindset, traders can apply their paper trading experience effectively and navigate the live markets with confidence.

Ready to take your trading to the next level? Start paper trading with AvaTrade today and build the skills you need for real-market success.

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We recommend you to visit our trading for beginners section for more articles on how to trade Forex and CFDs.

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