Would you like to trade stocks, without any risk at all?
Believe it or not, there is a way you can simulate trading stocks without having to put your hard-earned money on the line.
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This can be done through something known as paper trading. No, this does not mean you have to write down all your stock trades on paper, rather it means you can simulate a trade on the market without actually performing it.
Paper trading can be beneficial in several instances when you want to see how your money would do, without having to actually risk any money. But there are also several downsides to paper trading that you will want to explore before you spend all your time drafting up simulated trades.
Wonder how Wall Street’s top traders got to where they are today? They started out learning how the market works by paper trading. Additionally, paper trading can be a good way to get involved in a risky market where government regulations could change at a moment’s notice, such as the one that has formed due to the inflation caused by the coronavirus pandemic, without losing everything you own.
Whether you are short on cash, or just scared to dive in headfirst, paper trading is something that is for everyone no matter what walk of life you may come from. And with technology, paper trading is currently easier than ever before.
So if you are ready to learn about how the stock market works, and all the hypothetical money there is to be made, it’s time to grab your paper trading hat and keep reading.
How Does Paper Trading Work?
Before you get too ahead of yourself and start picking out stocks you think will perform well on the market, it’s important to know just how paper trading works. Let’s dive in.
Why is it Called Paper Trading?
Paper trading has been around for decades and is so named because of how, before the advent of the internet, stockbrokers would write down on stock trades on paper, but not invest any money just yet, and see how their ideas would have panned out. This way an investor would be able to gauge how successful their idea would have been. This also helps investors to gauge their skills in a safe environment with no risk.
In the modern-day and age, there is no need to actually write down the stocks that you want to paper trade. Instead, many premium stock brokers and investment apps offer a portion of their website where you can have play money to invest in stocks and see what happens.
To be clear: there is no real money involved in paper trading. Paper trading is simply a simulation of what would have happened had you invested in a certain stock at a certain time.
What is the Goal of Paper Trading?
When you see the news about big successful trades like the $25 million AMC pump-and-dump by Mudrick Capital, this may leave you wondering why anyone would paper trade in the first place—it seems that the stock market is super profitable as it is.
The truth is, everyone has to start somewhere. And even the most seasoned investors may sometimes have a hunch they want to explore without risking any money such as an investment in technology that may or may not become widespread in the future. Paper investing can help an investor gauge the value of the information they are finding, as well as understand the depth of their own trading instincts.
The goal of paper understanding is to find out the answer to a ‘what-if’ trading question without losing any money. Additionally, many stockbrokers use paper trading with the goal of trying out new investment strategies to see if they will work or not.
How Do You Go About Paper Trading?
Are you ready to try your hand at a few paper trades? Then you’ll want to start out by researching and picking stocks that you would like to theoretically invest in, but don’t have the money or capability to do so.
Then you will want to download one of the leading apps for stock trading which will let you simulate trades. Or, if forex is your thing, get an account with a popular forex broker and open a demo account—this is synonymous to a paper trading account.
Once you are all set up, put your pretend money in the stock you chose above. Now you just watch and see how your stock performs.
This will give you an idea of how your investment has turned out had you invested real money. If you are paper training with the goal of learning from the experience or trying a certain strategy, you may want to take note of what does and doesn’t work as you paper trade.
Advantages of Paper Trading
Paper trading may sound a little bit silly, but in the professional trading world, it has its perks.
No Risk
First of all, paper trading allows you to invest with zero risk. This is perfect for a first-time investor who may be unfamiliar with the market. Paper trading will allow you to try whatever you want without the chance of you losing your money.
Test Out Strategies
To be a successful trader, you will probably want to have a few strategies on hand when it comes to placing your money in the market. But of course, you will want to make sure these are good strategies before you use them with your cash. Use paper trading to try out any strategy you want for as long as you want.
Learn About a Trading Platform
If you don’t already have a favorite trading platform, paper trading is a great way to get familiar with one before you accidentally click the wrong button and invest your money in a place you didn’t want it invested in. Paper trading is perfect for familiarizing yourself with a new day trading platform even if you have experience trading, so that you can learn the ins and outs of all of a website’s products.
Paper Trading Drawbacks
Paper trading sounds pretty cool, right? Well although paper trading carries almost no monetary risk, there are still some disadvantages to engaging in the practice.
You Don’t Learn About the Emotional Side of Investing
The hardest thing about investing in the stock market is learning to control your emotions. You can’t panic sell when something drops a few cents, nor can you buy a stock just because you love the company. And when you are learning to trade via paper trading, it doesn’t train you for any of this.
Therefore, when you do switch from paper trading to trading stocks with real money, you may find that it is harder to let your head rule over your heart. And if you paper trade for an exceptionally long time before engaging in real trades, you may be in for a bit of an emotional shock the first time your trade goes wrong.
The Information Isn’t Always Correct
Many stock trading websites prioritize the accounts that have actual money in them as opposed to those users who are paper trading and thus the information reported on stock prices can be delayed in the world of paper trading.
Not only that, but paper trading also excludes many of the numerous fees and something called slippage, that are part of the real trading world. When you combine this with stock prices that may have changed and were reported late, this can lead to users believing they have made money, when under real conditions, they may not have made anything at all. This can lead to false confidence when it comes time to actually trade on the stock market.
You Won’t Make Any Profit
Perhaps the worst part of paper trading is when you have several amazing trades on paper that would have made you lots of money–if only you would have made them in real life! Remember, in the world of paper trading, the profits will be paper too. This can be very disappointing when you find that you would have made several good trades and made some money had the trades been real.
How to Start Paper Trading
Are you ready to dive right in and try your hand at some paper trades? Well before you can test out your new stock market strategies there are some steps you should follow to get started paper trading.
Step 1: First you need to decide what you want to practice trading. Are you interested in stocks? Or something more like ETFs? Generally, you should pick the products that you will eventually want to trade in real life to get the most out of paper trading.
Step 2: Next, you’ll want to decide the amount that you will practice trading. Of course, this isn’t real money, so you can pick as little or as much as you like. But again, remember that this is supposed to be a dry run for real trades–so choose a number that would be feasible for you to actually invest.
Step 3: Then you will pick the exact stocks or ETFs that you will trade. Write down their stock market symbol, how many shares you would buy, as well as the price they are currently trading at. But if you’re using modern technology (demo account), just add the desired stocks to your watchlist—this will make them easy to track via the trading platform.
Step 4: You will want to check in with your paper investments frequently over the coming months, notating when the prices go up, and down. You can also decide to sell stocks at a certain point or buy different stocks. Either way, after a few months, you should have an idea of what you would have made or lost had you actually invested your hard-earned money.
Does keeping track of your paper trading with paper and pencil seem exhausting? It can be, which is why many companies have made paper trading a digital event.
How to Set Up a Digital Paper Trading Account
As you can see, paper trading with actual pen and paper isn’t that fun. Thus many companies now allow their customers to use their platforms’ demo accounts for paper trading. This not only lets you practice your trades, but you will also become familiar with a broker’s offerings and how their platform works before you have to invest a penny.
Below are the steps you can take to set up a paper trading account with a stockbroker.
Step 1: Decide what broker you intend to practice trading stocks with. It might be a good idea to try out a couple of different platforms to find your favorite. There are quite a few brokerages that offer free demos of their products.
Do note, however, that some companies will only let you practice trading if you have a registered account with them. This means it might be worthwhile to see if your bank offers paper trading before you shop elsewhere.
Step 2: On the website of the company you have chosen, find the area where they offer paper trading. Sometimes this can be called a demo or practice trading.
Step 3: You will need to set up an account. This will typically require information like your name, birthdate, and your social security number. For a practice account, bank information isn’t required because you won’t be making any actual investments just yet.
Step 4: Once you have an account, you will want to pick out the stocks or ETFs you plan to practice trade with. Take into account the practice balance the account lets you have. In most cases, you will have a practice balance of at least $100,000.
Step 5: Purchase the stocks using the pretend money you’ve been given, then check back frequently to see how your paper stocks are doing!
Demo Accounts vs. Literal Paper Trading
Although you can learn to paper trade with a pen and paper, it doesn’t have to be this complicated (or easy to spill coffee on!) and nowadays, most stockbrokers offer demos on their website for people to paper trade digitally on their platform.
With a paper trading account on a website, you will be able to do almost anything you can do with an actual account with the company–all using pretend money. These accounts will look and feel like the real deal but will let you trade with digital money. This way you can get used to the site, and the stock trading world, without assuming any of the risks.
There are several pros to this when compared to literal paper trading. This is because a digital paper trading experience can oftentimes get rid of slippage and timing errors found in literal paper trading. And if you remember from above, this was a major con of paper trading.
Don’t celebrate just yet, because there are still some cons of using a stock broking company demo to practice paper trading, and one of the big ones is that you often have to make an account with the company you are demoing, and these demos can have time limits such as 90 days or 6 months. And besides just that, most companies additionally restrict the amount of play money you are able to paper trade with.
There are some additional pros and cons to each method, see for yourself below.
Paper Trading Tips
Despite all the downsides, paper trading really is the best way to prepare you for some real-world stock market trades. Just be sure you adhere to the following tips to get the most out of your paper trading experience.
Pretend Your Paper Trading is Real Trading
If you approach paper trading with a ho-hum attitude typically associated with play money, then you won’t put the time, effort, and thought into paper trading that you should.
This is why you need to think of your paper trading account or literal paper trading as the real thing. You should try to be just as emotionally invested in your paper trading account as you would a real account.
Have a Plan
Just like in the real stock trading world, paper trading without a plan can be disastrous. You should at least have an outline prepared, and know how much you want to buy of which stocks before you begin. You should additionally have days set aside when you will look at your portfolio, see how it’s doing, and make changes as you see fit.
Take Notes
Did a certain trade go especially bad for you? What happened the day before? Was the stock affected by trades, the news, or both? Even if you aren’t literally paper trading you should still have a notepad near your desk where you notate what happened to affect which prices and which trades. You never know what patterns you might discover.
Aim to Learn
Although you should treat your paper trading account as real, you also shouldn’t be afraid of taking a few risks. Ever wondered what would happen if you were to invest in a certain stock?
A paper trading account is a perfect time to find out. Just be sure that you are focusing on learning as much as possible—especially if you dive into a market like forex—and not worrying too much about how much play money you end up with.
Try Multiple Platforms
Are you struggling to trade on a certain site? Or maybe you don’t like the products offered? Then switch to a different stockbroker.
Switching during your paper trading period is much easier than switching later on after you’ve invested real money. So don’t feel tied down just because it took a few minutes to set up an account–you can do this again on a different platform.
Transitioning from Paper Trading into Real Trading
Maybe you’ve been paper-trading for a while now and you are here because you are ready to transition to actually buying stocks. If you’ve been using a paper trading digital account, this may seem like an easy move, but the truth is, it can be very difficult still.
One of the biggest downsides of paper trading is that you don’t get to experience the emotions of trading real money in an unpredictable market–like the one that many investors are facing currently with the coronavirus pandemic. And when you set up a real account and put your actual dollars on the line, you may be shocked by the full range of emotions you feel.
These emotions can affect you negatively, as they may encourage you to withdraw your money from a certain stock when it goes down. And stress tied to monitoring your stocks day in and day out may present itself where there was none before.
This is why, when you are first transitioning from paper trading to real stocks, you should keep it small and go for low-risk investments.
This will help expose you to the emotional world of investing without presenting you with emotions that are too difficult to handle right off the bat. And if you are still worried about navigating the psychological world of stock trades with real money, it is advised that you look for some professional applications to help guide you. Top trading alert services can give you investing advice as well as help you know when it is a good idea to facilitate a particular trade so you will be much less likely to engage in tactics like panic selling.
Conclusion
Overall, there is no better way to dip your feet into the world of the stock market than by practicing with paper trading. Plus, a number of the best brokers on the market offer paper trading apps. This makes paper trading an accessible and risk-free way for you to test out trading different financial products without having to put your real money on the line.
Of course, paper trading isn’t all sunshine and rainbows, because it is almost impossible to gauge the psychological difficulties that come with putting your money on the line in the stock trading world. But if you can keep this in mind, and treat your paper trading account just as you would a real account, you’ll be able to transition from paper trading to real stocks in no time at all.
This article originally appeared on Tokenist.com and was syndicated by MediaFeed.com.
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A guide to options trading
Options are contracts that give investors the right, but not the obligation, to buy or sell an asset like shares of a company stock. Purchasers can buy or sell by a certain date at a set price, while sellers have to deliver the underlying asset. Investors can use options if they think an asset’s price will go up or down or to offset risk elsewhere in their portfolio.
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Both at-home investors and professional traders can trade options. At-home investors can make options trades by opening up an account with a retail trading platform.
The market for equity options is typically open from 9:30 a.m. to 4 p.m. ET, Monday through Friday, while futures options can usually be traded almost 24 hours.
People can use options when they think an asset’s price will go up or down. Investors also use options to hedge or offset risk from other assets that they own.
Some of the earliest mentions of options are from Ancient Greece and were related to the olive harvests. Options were also used during the 17th century Tulip craze when Dutch aristocrats speculated on prices of tulip bulbs.
In more modern times, the Chicago Board Options Exchange was the first market to list stock options in 1973.
Investors have also turned to selling options as a way to collect income. Selling put options in particular, when markets are calm, has been a source of income in recent years, as investors collected premiums for the contracts with the hope that they don’t get exercised.
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When purchased, call options give investors the right to buy an asset. Call buyers are essentially giving up some profit in exchange for the lower risk of not owning an asset outright, since the price of the asset can potentially fall.
Say, for example, an investor thinks that the stock of Company X, which is trading at $100 a share, will climb to $120 a share. He could buy call options that give him or her the choice of buying the shares at a later date should they reach that price.
If the stock fails to reach $120 by the specified time frame, investors would lose the amount of money they spent on the premium but also be less exposed to the risk of the share price declining.
Meanwhile, puts are options that give investors the right to sell an asset. Investors pay a premium and are more likely to be protected against losses in case the price of the asset falls.
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A stock’s put-call ratio — or the number of put options traded in the market relative to calls — is one measure that investors look at to determine sentiment toward the shares. A high put-call ratio indicates bearish sentiment, whereas a low one signals more bullish investor views.
Options are considered financial derivatives because they’re tied to an underlying asset. Stock options are common examples of the contracts and are based on the shares of a single company. Meanwhile, ETF options are contracts that give the right to buy or sell shares of an exchange-traded fund.
A stock option typically represents 100 shares of the underlying stock. Other types of derivatives include futures, swaps, and forwards. Options that exist for futures contracts, such as S&P 500 or oil futures, are also popular among traders and investors.
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In order to trade options, investors need to know the strike price, the level at which the option holder can exercise the contract. In a trade, the option seller is obliged to deliver the promised shares if the buyer decides to exercise the option.
Options can be “in the money,” “at the money” or “out of the money.” For calls, if the shares of the underlying stock are higher than the strike price, then the options are considered “in the money.” For puts, options are in the money when the shares are trading below the strike price.
“At the money” is when the options strike price is equal to the price of the asset in the market. Contracts that are at the money tend to see more volume or trading activity, as investors are looking to exercise the options.
“Out of the money” is when the security’s price is below a call option’s strike price or above a put option’s strike level. For example, if shares are trading at $50 each and the call option’s strike price is at $60, the contracts are out of the money.
With put contracts, if the shares are trading at $50 but the contract’s strike price is $40, then the options are out of the money.
These options tend to be cheaper since there’s less of a possibility that investors will be able to exercise them. If the strike prices are significantly above or below from where market prices are, traders and investors often refer to the contracts as ”deep out of the money.”
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Another concept that investors need to understand about an option is its expiration, or the date by which the contract needs to be exercised. The closer an option is to its expiration, the lower the value of the contract. The length of time before the option’s expiration typically ranges from one day to nine months, although longer-term contracts exist as well.
While expiration dates that are one month to three months away have historically been popular, shorter-term contracts, such as weeklies and dailies, have gained in popularity in recent years as more exchanges have listed them and investors have been drawn to the potential short-term profits they can generate.
Premiums are the cost of the options. The Black Scholes model is the mathematical formula for determining the price of options. The model takes into account factors such as the price of the underlying stock, the option’s strike price, the time before expiration, the stock’s volatility and interest rates.
Investors also look at a stock’s implied volatility, which is the expected volatility of the stock in the future based on the prices of its options.
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Traders use a range of figures known as “The Greeks” to gauge the value of options:
- Delta is the measure of the impact of the price of the underlying asset on the option’s value.
- Beta is how much a single stock moves relative to the overall equity market.
- Gamma tracks the sensitivity of an option’s Delta.
- Theta is the sensitivity of the option to time.
- Vega is the sensitivity of the option to implied volatility.
- Rho is the sensitivity of the option to interest rates.
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Options trading is complex and involves risks, but once investors understand the fundamentals of the contracts and how to trade them, options can be an important tool to make investments while putting up only a premium.
In other words, the options market can give investors the exposure that they want without having to own the asset or security outright.
Options can also be an important way to protect a portfolio. Some investors offset risk for a company stock with options for an exchange-traded fund that gives broader exposure.
For instance, an investor with a big position in a bank stock can also hold puts for an ETF that gives exposure to a broad swath of financial companies.
If the price of the bank stock falls after bearish news for the financial industry hits the market, the investor can sell the put options for the ETF and therefore mitigate some of the losses incurred from the bank stock.
The practice of selling options to collect income can also be a way for investors who are seeking income to collect premiums consistently.
This was a popular strategy particularly in the years leading up to 2020 as the stock market tended to be quiet and interest rates were low, pushing investors to seek alternative sources of income.
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Expirations are a risk in options. Securities like stocks don’t have expirations, but options contracts can expire without getting exercised by their buyer. While premium costs are generally low, they can still add up if options are used strategically by an investor.
This is why it’s important for an investor to understand the concept of time decay and how the value of an option decays as its expiration date approaches.
Another risk that options investors face is liquidity. Because options are either calls or puts and often have multiple different strike prices as well as expirations that can range from one week to years, there are many contracts that are outstanding in the market.
The plethora of different types of options contracts means investors may encounter issues with liquidity, or the ease with which they can be traded without moving prices. One way to try to measure this for an option is to look up its open interest. Open interest is the number of contracts that exist for an option.
For instance, an option that gives investors the right to sell a stock in three months may be easy to find and trade in the market, because investors commonly utilize them.
Meanwhile, there may be few contracts in the market that give investors the right to sell in a year, meaning trading those options is more likely to move their premiums.
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While simply buying a call or put is one way to trade in the options market, there are also multiple strategies involving the contracts that investors often employ.
Covered calls: A trade in which an investor sells bullish calls while also owning the underlying security. The selling of options helps the investor generate an additional stream of income while running the risk of having to deliver the shares they own if the security rises and the strike price is triggered.
An investor might do this trade when it seems there’s not much upside left in the security they hold.
Spreads: These trades involve buying or selling and equal number of options for the same underlying asset but at different strikes or expirations. Horizontal spreads involve different strike prices, while vertical spreads use different expiration dates.
Straddles and Strangles: These allow investors to profit from a potential big move in the asset, rather than the direction of the move. In a straddle, an investor buys both bullish calls and bearish puts with the same strike prices and expiration dates.
The investor would pocket a profit if the asset price posts a big move, regardless of whether it rises or falls. In a strangle, the investors also buys both calls and puts but with different strike prices.
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While it’s up for debate how often the derivatives market affects price moves in the underlying market it is tied to, business publications were reporting that that’s what happened in 2020 with technology stocks. Huge volumes in call options of technology stocks caused sellers of those contracts, typically banks, to hedge themselves.
They were reported to do this by buying shares of the underlying technology companies. This caused stock prices of the technology stocks to climb, which in turn, may have increased volatility in the market as the buying happened quickly and when there was a sudden reversal in prices that caused rapid selling.
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originally appeared on SoFi.com and was
syndicated by MediaFeed.org.
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