The Pros of Using a Demo Trading Account
A demo trading account is a great tool for learning to trade without incurring financial risk. However, it is not a substitute for developing the key qualities needed for success as a trader such as discipline, humility and a calm attitude. Here are some of the main benefits and drawbacks of demo trading accounts.
The Pros of Using a Demo Trading Account:
#1. Allows you to observe how the price of assets changes and grasp the risks associated with leverage
In general, new traders are often struck by two aspects of forex trading. On one hand, they may be impressed by the relatively low volatility compared to other markets like stocks or commodities. On the other hand, they may also be struck by the potential for large price fluctuations when using the high leverage offered by forex brokers, particularly when key economic announcements such as interest rates or non-farm payrolls are released.
A demo trading account can help you understand that leverage is a double-edged sword: it can provide the opportunity to make significant profits quickly, but it can also lead to substantial losses with a single bad trade. Professional traders typically use leverage of no more than 5:1, while forex brokers may offer leverage as high as 500:1.
#2. Enables you to familiarize yourself with the trading platform and understand the terms and conditions offered by the broker
A demo trading account is essential for learning how to execute trades, set up different types of charts for technical analysis, identifying the various contract sizes, and understanding the margin requirements depending on the leverage used, among other things.
#3. It allows you to test and develop different trading strategies
The most widely used trading platform among retail traders is MetaTrader 4, which offers live market quotes and a virtual portfolio in demo mode to practice under real market conditions. This allows traders to learn how to analyze price action, chart patterns, support and resistance levels, correlation between currency pairs, how volatility changes depending on market hours and different assets, and develop their own trading strategies.
Additionally, traders can test automated strategies using historical data and optimize settings. However, it’s important to keep in mind that while the potential for profit is significant, without strict risk management, it’s possible to lose all of your money quickly.
The Cons of Using a Demo Trading Account:
#1. A lack of realistic risk in demo trading account can prevent you from developing the necessary sense of caution for success in live trading
Even if you are successful in making profits in a demo trading account, it does not necessarily mean you will be a successful trader in live markets. In a simulated environment where losses have no real-world consequences, emotions related to losses and profits have little impact on decisions. Thus, it is important to gain real-world experience to understand and manage the psychological aspect of trading. It is recommended to start with a relatively small amount of money in a real account as there is always a possibility of losing it all as part of the learning process.
#2. You may developed bad habits
Due to the lack of real risk involved, traders may have difficulty properly managing risk when using a demo trading account. They may also be inclined to take on more risks than they would with real money, leading to the development of poor trading habits.
#3. You won’t be able to truly feel your reactions to real financial risks
The trading adage of “cutting your losses quickly and letting your profits run” is valid, but can be challenging to execute in real trading scenarios. One of the most difficult aspects of trading is not identifying good entry points, but rather knowing when to exit. Emotions often play a large role in decision-making, making it easy to take profits, but difficult to accept losses, even if they have the potential to turn into profits.
You can easily understand from trading with a real account that discipline is necessary to limit risk. On a demo trading account, discipline appears needless and the use of stop losses is frequently perceived as something that hinders your ability to make money. A trader using a live account is aware that these two factors are just as significant as a strategy that specifies entry and exit positions, if not more so.
Demo trading account is crucial for learning trading, how trading software functions, and how to construct methods for free and without risk, even though they do not allow you to develop the psychological side of trading.