What if I told you there was a way to develop your skills as a trader without risking actual money? There is a way, and it’s called paper trading.
Paper trading is a method of virtually testing out setups and strategies without risking the money in your actual account. It can be a great way to develop skills and gain confidence before you switch to live trading.
Here’s a comprehensive primer on paper trading, including the benefits, potential drawbacks, and how to use it to improve your trading skills.
Table of Contents
- 1 What is Paper Trading?
- 2 Why Should You Practice Paper Trading?
- 3 How to Start Paper Trading
- 4 My Paper Trading Tips
- 4.1 Be as Realistic as Possible with Paper Trading
- 4.2 Record Your Results
- 4.3 Analyze Your Past Trades (Successful and Unsuccessful)
- 4.4 Focus on Developing Your Trading Confidence
- 4.5 Remember: There are Differences Between Paper Trading and Real Trading
- 4.6 Paper Trading: A Real-life Example that Helped My Student Profit
- 4.7 The Importance of Mastering Trading Skills
- 5 Conclusionpenn
What is Paper Trading?
The two word explanation? Simulated trading.
On the surface, paper trading is just like regular trading: you’re choosing stocks, putting in orders, and watching what happens next to see if your trade is profitable or not.
However, the key difference is that you’re not actually trading with money when you’re paper trading. The transaction is completely virtual. No actual money enters or exits your account as a result of paper trading.
Download the key points of this post as PDF.
Technically you could practice paper trading using the newspaper and a pencil and paper; that’s why it’s referred to as “paper trading”.
But nobody really does that anymore. In recent years, simulated paper trading platforms online have become the preferred way to do it.
On today’s paper-trading platforms, the look and feel is pretty identical to real trading platforms, so you can really get the feel and sensation of executing a trade.
Why Should You Practice Paper Trading?
A lot of new traders roll their eyes at the very concept of virtual trading. If you’re not actually making money, why bother with paper trading?
Listen, I understand the desire to jump in and make money. However, there are many reasons paper trading is worth your time when you’re starting out, including:
- Get your feet wet. If you’re a new trader, the entire process of choosing stocks and executing trades can be overwhelming. There are a lot of factors to consider, and the pace is fast.
Even if you’ve been keeping up with my webinars and lessons, once you actually start trading, there’s still a big learning curve. It takes time to get used to the motions and to be able to react confidently to the market’s movements.
If you’ve learned the basics of the market, you’ve learned how to do research and track stock patterns, and you have an understanding of how to execute a trade successfully, paper trading can offer the perfect stepping stone to live trading.
Paper trading offers you a chance to put what you’ve learned to work, applying your knowledge using realistic trading scenarios.
- Save your money. True, the fact that paper trading doesn’t risk actual money means you won’t earn anything through your efforts. But it also means that you won’t lose money.
Most traders lose money, especially early in their career while they’re still figuring out how things work. Because of this, I always suggest taking small positions, especially at first, so that you can gain some experience and insight on successful strategies before taking bigger risks.
Paper trading can offer you the opportunity to be a little less risk averse in your trades, to see what might happen if you were taking bigger positions. It can be a great way to test the waters without risking your hard-earned cash.
- Try out new setups. If you want to be a successful trader, you need to find an edge. This means you have to find your own unique way of choosing stocks and executing trades. Once you begin to find success, you can build slowly, with time.
While maintaining a trading journal can help you figure out and refine setups which are working. However, sometimes it may become necessary to try something new. For example, maybe the market has shifted and your old setups aren’t working anymore.
If you want to test out a new setup or trading strategy, paper trading can offer the perfect platform for it. You can try out your new setup and see how successful it is without risking real money.
This can be a great way to try new strategies and maybe even develop a new bread-and-butter setup.
Of course, there are some practical considerations when paper trading:
Paper Trade to Test Order Types and Market Conditions
To be a successful trader in the actual market or in paper trading, you’ll need to familiarize yourself with the different order types.
Order types include stop-loss, limit, and market orders. This post on Investopedia details the different types of orders.
In paper trading, just as in real trading, you’ll need to choose the best type of order to suit the market conditions and your personal risk tolerance and trading style.
Paper Trade Accounts vs. Live Accounts
Paper trading is kind of like trading with training wheels. It can be helpful at first, but there will come a point at which you’re going to have to take the training wheels off and try to ride on your own.
If you get too accustomed to always using those training wheels, it becomes harder to divest yourself of them.
Since paper trading doesn’t involve real money, you’ll never totally get the full risk and reward experience that you will with trading. Since there won’t be any real risk, so you may begin to get a distorted sense of security.
While paper trading is a great tool, be careful about using it too long before you switch to live trading. Or, use it sparingly as you test out new methods of trading.
The Psychology of Paper Trading
Paper trading psychology can be complicated. On the one hand, it can help bring you up to speed and gain confidence as a trader.
However, there’s always going to be part of you that knows it’s not real money.
So, you may seem cool as a cucumber while paper trading, and then when you enter a real trade you might find that you begin acting in an irrational or emotion-fueled manner. When it’s real money, emotions can get involved.
This is one of the reasons that I suggest switching to real trading pretty quickly, but keeping your positions small.
This is how you’ll begin to earn experience. By live trading with small positions, you may not profit a lot, but you’ll learn a lot about your personal risk tolerance and the true psychology of trading.
How to Start Paper Trading
Paper trading is easier today than ever before. Here’s what you need to know to get started.
Setting Up a Paper Trading Account
Setting up a paper trading account is easy. There are multiple websites which have paper trading available either for free or as part of their services, including StocksToTrade, Paper Trading Tradingview, and TD Ameritrade. Each site requires basic information and you must create an account with them.
Choosing the Best Paper Trading Site
Personally, I find the paper trading module on StocksToTrade to be the best of the bunch, because it was created by traders for traders. In my opinion it has the best interface and user-friendly platform.
We went through a lot of testing to design this program, and it’s super helpful to be able to use the analytical tools on the StocksToTrade site in tandem with the paper-trading program. This is really what will get you prepared for live trading — delving into the all-important research, and executing trades based on your careful analysis.
However, it’s not the only paper trading tool out there. Here are some of the other big ones:
TradingView Paper Trading
TradingView is a program offering stock charting and analysis software, with various pricing tiers based on how advanced your needs are. TradingView is self-described as “easy and intuitive for beginners, and powerful enough for advanced chartists”. It includes real-time data and charting software, and doesn’t require any software installation.
This network also includes a paper trading module, so that you can learn before you risk real money. Once you’re comfortable, you can open an account with supported brokers, which will be connected to your TradingView account.
TD Ameritrade Paper Trading
TD Ameritrade is a big financial website which offers a variety of different services. Their Thinkorswim is a trading platform featuring tools and resources which can be accessed from your desktop or on a mobile device.
While you can use Thinkorswim for live trading, the platform also paper trading via their module called papermoney.
Creating a Paper Trading Portfolio
With paper trading, you’ll be able to open an account and assemble a portfolio. You’ll start by setting up a balance before beginning to research and browse potential stocks to trade.
Depending on the platform, you may need to answer some more questions or tailor some account settings. Regardless of the platform, it won’t take long to get started.
My Paper Trading Tips
Before you get going with executing paper trades, consider these tips:
Be as Realistic as Possible with Paper Trading
This is important: You must be as realistic as possible with your paper trading account. Otherwise, it won’t do you much good.
When you set up your paper trading account, you can set your balance to any number you want. Set this number to be very close to the amount with which you’ll actually be executing live trades.
Just because you can set up a paper trading account with a $200K balance doesn’t mean you should.
If anything, it will reinforce the idea that paper trading is “play money” and keep you from making any real and meaningful progress with the exercise. It will make you feel like you’re capable of taking ridiculous positions unlike the ones you would take in real life.
For example: If you have $4,000 to trade with, set up your paper trading account with $4,000. If you have $25,000 to trade with, set up your paper trading account with $25,000. Got it?
Additionally, be realistic in your approach to trades. Seek out the types of trades you realistically want to approach as a live trader.
Yes, you might start out trying a variety of different methods, but as you track your trades and see what is working, begin to double down on the approaches which are serving you best.
Record Your Results
Keeping a trading journal is an invaluable way to track which setups are working — and which aren’t. This helps you begin to refine your methods so that you can focus on and improve upon what is actually making you money.
But don’t wait until you’re live trading to record your results. If you make it part of your routine when you start paper trading, not only will you be developing a good habit, but you’ll begin to reap the benefits of reviewing your past trades from the get-go.
Paper trading will be most beneficial when you treat it as much like live trading as possible.
So be sure to keep note of as much as you can, including your entry and exit points, how many shares you purchased, why you decided to buy the stock, what the risk and reward ratio was, how the trade went, and what you learned.
You can make notes of mistakes or things you did right, and this will help you improve over time.
Analyze Your Past Trades (Successful and Unsuccessful)
You can take your data recording one step further by analyzing the results.
When you analyze your data, even paper trades can be informative in helping you gain an edge. This will also help you refine your trading techniques.
For example, if you keep on trying to take advantage of morning panics with a short-selling setup (like what you see here) but your results keep falling flat, it may be time to change your methods, improve your setup, or return to the books to study more.
Really analyze what’s going wrong in your trades so that you can work to make improvements. For instance, if you find that you simply don’t understand the method of trading well enough, it probably means that it’s time to revisit some of my study guides and webinars so that you can become better educated.
Once you’re able to identify what part of the process is falling flat, you can make a to-do list of what needs to be done to help improve. Having actions to take will give you specific things to work toward. Specific goals deliver better results.
Focus on Developing Your Trading Confidence
One of the biggest tips I can impart with paper trading is that you should use it for what it is: a tool to help develop confidence for live trading.
Paper trading can quickly become a crutch if you use it as an excuse to keep from live trading. Yes, it will still be a scary jump to live trading, but at a certain point you’ve gotta take the leap.
Paper trading is fantastic for new traders. While there’s no way that you can guarantee you’ll win every time in trading, you can improve your odds of success by mastering different setups and improving upon them. This is what I do, and so do many of my best students like Tim Grittani.
Paper trading allows you to get up to speed, become familiar with the process of making a trade, and allows you a first chance at putting your research to work.
It can be exhilarating to see a paper trade go well — even if you’re not technically making money. Let this experience build your confidence so that you can dive into live trading with a greater sense of purpose.
Remember: There are Differences Between Paper Trading and Real Trading
One of the most important tips I can impart about paper trading is that you must remember that it’s different from live trading.
As much as you can get into paper trades in a realistic way, the fact is, there’s no actual money being transferred when you trade. As such, it’s extremely easy to maintain a level head in your trades.
This can make you think that trading is no big deal and won’t be emotional at all. But when your real money is at stake, things feel a lot more pressing and you’re more likely to make emotional decisions.
Paper trading is a tool and an exercise, but it is NOT live trading. It’s a great way to segue from education to actual trading, but it’s not something that will make you invincible.
Another important difference between paper trading and live trading is liquidity. When you paper trade, the shares are always available and the entry and exit is simple. With actual trading, you may not always be able to buy as many shares at the price you’d like. So keep in mind that there will be practical differences when you’re trading live.
Paper Trading: A Real-life Example that Helped My Student Profit
My student Jonas, who I profiled in this post when he exceeded $100,000 in profits, has some great advice for why you need to be realistic with your paper trading account.
Here’s his example of why it won’t work if you aren’t realistic:
Let’s say you buy a stock called XXX.
It’s trading at $1, and you buy 1000 shares.
The stock would have to move up so that you will cover the cost of the commission alone.
Commissions are typically $4.95 per trade, so to have a profit, you’ll need to cover your commission on the buy and sell of the trade.
- You buy the stock XYZ 1000 shares at 1$ = $1,000
- Buy commission =$4.95
- Sell commission = $4.95
- Then, you sell all your 1000 shares of XYZ at $1.1 = $1,100
- $1,100 – commissions = $1090
You’ve now made $90 on that trade. You’ll also need to pay tax on your earnings, which differs based on where you live.
Basically, the larger the number of shares you buy on a stock, the lesser the price needs to go up for you to start making money. You can then buy and sell all the stocks faster and just look for smaller price movements.
Had you used more money from the paper trading account, it would’ve looked too easy to make money, which is why you should only paper trade with the amount you have in real money. You need to learn the basics. It’s all about learning and not playing, since this isn’t a game. Someday, it will be YOUR money that you’ve worked for.
The Importance of Mastering Trading Skills
As a trader, mastering basic trading skills is vital not only to your success, but your very survival. Paper trading can be part of developing these skills.
To make the most of your training/paper trading efforts, you need to understand how the stock market works.
One of my goals with the Trading Challenge is to offer a real-world trading education. I’m constantly in contact with my students, and offer an abundant stream of webinars and tutorials. I’m totally transparent in sharing my own trades with them, and consider myself not just their mentor but a fellow trader.
As my student, I want you to develop the skills and knowledge necessary to forge a long-term, successful career as a trader, complete with your own trading style. Everything I offer and all of my teachings are created with this goal in mind.
Paper trading can be an extremely helpful tool to help you gain confidence and test different trading methods. Once you have a good run going on the virtual platform, you’ll gain more confidence to start live trading. While you’ll still experience a learning curve, paper trading can shorten it considerably.
Have you tried paper trading?