The limitations of demo trading: of pain and gain
Demo or paper trading is very advantageous to new traders in learning much of the basics of financial trading. This site strongly recommends all new traders to blow up demo accounts of any size at least 5 times!!
One of the issues with that, is that new traders may come to feel demoralised and then decide that they “can’t do this”. Well that could well be true. Note however, that nearly every successful trader has lost serious amounts of real money on the way up. We mean the eventual and truly successful 0.001% of all who come to trading (an estimate because nobody truly knows what percent). That’s the one in one thousand of successful traders who will have endured the pain of large losses but continued to learn in a more controlled way. It’s a thing called discipline – and it does not come easy! Change takes time.
What that means, is that there is a fundamental difference between demo-money and real money. And it’s this simple: We’re terribly attached (naturally) to real money!! Our psychology is fundamentally different about something we can simply throw away without discomfort, compared to something that is truly valuable. Therefore, the absence of true pain does not reshape our psychology efficiently. If you didn’t get the point, it’s the difference between smashing up cars in a VR game such as Need For Speed and driving your own car recklessly on the roads. You cannot simply transfer the skill from a virtual environment to the real world.
So what will demo accounts help you with? The following is a short and random list:
1. Grasping the basics.
2. Learning about patterns.
3. Understanding something basic about market behaviour.
4. Appreciating randomness and chaos.
5. Understanding a bit about yourself.
What will live accounts help with (but not demo accounts):
1. A deep appreciation of your psychology and how you tolerate risk.
2. Knowing when to stand and when to run.
3. Acquiring a deep discipline – this is a long process for most people as it is about reshaping their psychology.
4. Understanding how the pain of loss, can impact on thought processes.
5. Knowing how the markets disobey the ‘rules’ of things like RSI, Fibonacci and everything else you will have learned.
Notice that none of the above is about strategy in trading. ‘Strategy’ you may have – control over your psychological make up you will not have as a new trader.
So – what’s next? Do you short circuit the process and jump into a live account? NO!! On average it could easily take two years to really grasp the basics. In doing the basics on demo accounts, it is suggested that new traders demonstrate that they can at least break even over a 6 month period of regular trading, before considering a live account.
When a new trader is ready for a live account, go in small but not too small – but with a sum of money that can suffer a 50% loss without endangering overall finances for other things. New traders should watch carefully for a possible scenario, where account size doubles in the early stages, only to suffer massive losses later on. It’s about the what true confidence means.
Supplemental: What people want and why they won’t get it.
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