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Last updated on 4th September 2017; If you don’t already know what a demo trading account is then I’ll briefly explain. Demo accounts are “test” accounts traders can use that don’t actually contain any real money, but do run on the same market prices and meta trader interfaces as the real accounts. These are extremely popular with all brokers and I’d be very surprised if any broker didn’t offer a demo account service (although I wish they would get rid of them for the reasons I’m about to outline.)
Generally these accounts are used as you would expect – For people to test their theories, see if they would have profited using “real” money. But there are so many issues with this, including a number that are not economics based (psychology plays a huge role when no actually money is on the line) as a result the individuals who profit from demo accounts think they are the greatest traders of all time. Needless to say they don’t last long in real accounts. In this post I’m going to run through 3 reasons why I personally don’t believe in demo trading accounts and when I personally don’t recommend any of my students ever utilise one.
3 Primary reasons why they are useless
1.) Lose / Lose Situations
When you trade in a demo account whether you profit or generate a loss its a lose/lose situation.
Let me explain.
So say for example you started trading and made a small steady profit, the theory was great and you continued to trade for 1 month and made a great profit at the end of the month. This would be a lose situation as you haven’t made any real money. All you have done is semi-proven a theory (which is great, but we will get on to something better in point 3.) So essentially all you’ve done is wasted a month when you could have made the same profit in a real trading account.
The smart individual might say that you can trade without risk in demo accounts and hence build theories this way, but this is NOT the way to go for a number of reasons. First of all imagine the following. Let’s say you find a theory that is very profitable at the moment and you make 10% ROI in 2 months of trading, so you’ve almost grown your original “bankroll” by 25%. But as soon as you go into the real accounts and start trading with real money, you hit regression (and it will happen at some point, variance is a very real issue.) But then you have 2 months of losing trades and lose 15% of your bankroll. Now unless you are a very savvy trader, you will probably ditch this strategy and that, right there, is the number 1 reason people don’t make money in the markets!
Let’s say you have a theory and you lose a lot of money in this months’ period. Now this can’t be bad right? If it were real money then you would be really concerned but its only cost you your time right? Nope. The issue here is a mindset one. Yes, losing fake money is obviously better than losing real money. But when you lose in a demo account something happens to your mindset. Your brain (and usually ego) says “if this were in a real account with real money I would have been more careful and not lost all of this money” – So let’s go ahead open an account and I’ll be “more careful” do “more research” make “less trades”…. Can you see how this is also a bad situation?
2.) Demo Accounts Take To Long
If you’ve read any of my guides on forex trading you know 2 things. The first is I recommend a high starting capital, and in the time you are accumulating this capital, I recommend learning and researching EVERYTHING! I’ve even done a timeline article stating you should research for a year straight before even making a single trade! Now that’s a lot of time to be constantly reading, learning, testing before you even start implementation (which is a whole other learning stage of its own.) Using a demo account is just adding more time between you and potential profit! Something that I do not recommend after you’ve spent a year researching!
3.) Back Testing Strategy
After those 2 points I know what most people reading this post will be thinking. It will be something along the lines of “Trading in a demo account is safer for a strategy I’ve not tested” and this is true. As I mentioned in point 1 there is a better way, both for your mindset and your bankroll, and that is to back-test a strategy. This is personally what separates us from less experienced traders…. I love data! Can’t get enough of it.
Win/Loss trades, stop losses, how much would I have lost or earnt…. But instead of doing this in a demo account using live odds, simply back-test the strategy. So say you have a simple theory around a bat formation. You can backtest this on 4/5 currency markets on the specific time chart you are looking at. Then see if it would have resulted in a monthly profit or loss. If it was a loss then move on, if it was a profit, then how much? What’s the best currency pairs for this theory? Refine your strategy and theory! You don’t need to go back years and years. 6-12 months or enough data to get a picture is usually enough time.
And guess what this does….
It gives you CONFIDENCE in the strategy you have created. This means you won’t move stop losses, you won’t take profits too early and you won’t be scared to make big trades when the formations are in place! Fear is the destroyer of profit. Generally confidence in trading takes years. You have to be an experienced trader with years of profit to be “confident” right? Nope. Backtest a theory. Trust me, you’ll be excited when you can see a market doing what you want it to do, even if you haven’t made a single trade yet!
The one situation where they are Relevant/Useful
So although I do hate demo accounts there is one situation when they are useful, and that’s to get to know the interface or platform. How to make trades quickly and accurately. Obviously this would come over time by using the normal account, but in a demo account situation you can test everything very quickly and get to know the icons, tabs and interface without having the risk of making a mistake and having real money on the line!
Thanks for reading and remember to like/share if you enjoyed!