Q&A
Inside The Futures World
Want to find out how the futures markets really work? DeCarley Trading senior
analyst and broker Carley Garner responds to your questions about today’s
futures markets. To submit a question, post your question at https://Message-Boards.Traders.com.
Answers will be posted there, and selected questions will appear in a future
issue of S&C. Visit Garner at www.DeCarleyTrading.com.
Her books Currency Trading In The Forex And Futures
Markets; Commodity Options; and A Trader’s
First Book On Commodities, are available from FT
Press.
THE JOYS OF PAPER-TRADING
How long should novice traders paper-trade before getting involved in the markets?
The benefits of paper-trading significantly diminish beyond a couple of weeks. In fact, those who spend months (or even years) perfecting their skills in a simulated trading account are likely getting more entertainment than education.
The bottom line? Trading success is largely determined by mental stability, but unfortunately, paper-trading excludes the psychological aspect of the game. As a result, the practice fails to provide traders with a realistic account of their skills. For instance, a successful paper-trader might be proficient in technical analysis and fundamental research, but if he is not capable of managing his emotions, the success enjoyed in a simulated account will not carry into live trading.
The difference between a simulated account and live trading is that there is actual money involved in a live account and, therefore, risk of loss. Along with financial risk comes psychological challenges; a less obvious difference between simulated and live trading is that making rational decisions with what is essentially Monopoly money can be done relatively quickly and efficiently. Yet, when there is hard-earned money on the line, the mind has a tendency to play tricks on traders as fear, greed, and frustration breed pressured decisions.
I have spoken to many traders who have taken simulated trading accounts from small balances to astronomical ones, and they are surprised when they don’t get the same type of results when they go live. Similarly, I’m often approached by those interested in managing money for others with the assumption that a paper-trading track record will be enough to attract investors. In both cases, the trader has acquired a false sense of comfort in his or her trading ability with little proof they will ever make a dime in the markets. Believing that paper-trading results indicate an ability to profit in the markets is similar to perfecting skills in a boxing video game and expecting to have the same results in a real boxing ring.
Although a dollar at a time can add up quickly, it should be a manageable pace for most beginners to get their feet wet.Although I question the benefit of paper-trading to the overall success of a live trader, it is a necessary evil when it comes to familiarizing yourself with the trading platform you will be using. It is foolish to risk your hard-earned money before you are fully aware of the platform features, market quirks, order types, and account monitoring techniques. Each of these skills can be honed within a week or two of paper-trading.
Similarly, if you are exploring various trading strategies, it is worth your while to paper-trade the entry and exit points in a simulated account. This should give you a good idea of how a particular trading method might perform (in the absence of psychological pressures, of course). The length of time that traders will benefit from simulated trading to construct a strategy will vary by the time frame of the trading method. For instance, daytraders will most likely know whether their strategy is acceptable within a few weeks, but swing traders might find it necessary to paper-trade for a month or so. Option sellers, on the other hand, might need a few months.
There are ways to practice trading with real money without risking a lot of capital. For instance, forex traders might consider trading mini-contract (sized at 10,000) currency units; similarly, futures traders could look into trading the CME’s emicro currency futures. Each of these contracts carries an approximate tick or pip value of about $1.
Although a dollar at a time can add up quickly, it should be a manageable pace for most beginners to get their feet wet. For example, many trading days see price changes ranging from 30 to 50 ticks in any particular currency, which equates to about $30 to $50 in profit or loss. As you can see, trading emicro futures or mini forex contracts will allow traders to get a small dose of the emotional turmoil they will face as a futures, forex, or option trader, but it shouldn’t do too much damage to the wallet.
Don’t confuse my stance of minimal paper-trading with that of no paper-trading. As I’ve stated, the practice certainly serves an admirable purpose. Nonetheless, turning the learning experience into a mock trading career could actually work against your odds of success once you begin trading with real money. After all, simulated accounts tend to be far more successful than live accounts, and the overconfidence they breed can be detrimental to inexperienced traders.