How to Paper Trade
Paper trading is the art of trading a security without using real money. The intent is to help the aspiring trader establish good fundamentals and identify areas for improvement in a low-stress environment prior to tackling the challenges of trading for real money. While paper trading can mean just jotting down stocks or bonds that a trader would've bought and sold in a notebook, advances in technology have made demo or simulated trading available via the Internet and it is reasonable to consider demo, paper and simulated trading all the same thing.
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Instructions
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Go into paper trading thinking that it is the real thing and treat it as such. Many traders make the mistake of treating paper trading like it is a video game, thereby establishing bad habits that carry over into live trading. The trader that recognizes the usefulness of paper trading will be successful with real capital because he used his time paper trading to perfect his system and improve his weaknesses.
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When paper trading online, the preferred method, look around for the best simulator available. Nearly every forex broker offers free demo accounts with as much as $100,000 in "play" money. Forex demo accounts are the best of any asset class because they feature real-time quotes and analytics for no charge. Many options brokers also offer free simulated accounts that are pretty close to a live trading environment, but finding a good stock simulator for free can be difficult because stock exchanges make money on the sale of their real-time data and therefore aren't inclined to give it away for free. That said, there are a few decent stock simulators on the market that are free to investors.
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Define your trading rules and stick by them during paper trading. If an investor paper trades 1,000 shares of stock or 10 forex lots while paper trading when she knows that she would never trade such sizes in a live environment, she is doing herself no favors. Likewise, the trader should establish her risk parameters while paper trading. For example, if a trader says she won't take anything more than a $100 loss per trade with real money, she should take no losses greater than $100 while paper trading.
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Keep accurate, detailed records. One of the advantages of paper trading is that it is stress-free so investors should take the time to keep accurate accounts of their trading activity. At the end of the day, they can review their trading log and identify areas of strength and where they need to improve. And best of all, a lot of online simulators will allow traders to print out a copy of their paper trades for the day.
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Find a group of other traders that are paper trading the same asset class and exchange ideas with them. Trading can be a lonely business, but many traders benefit from sharing ideas with folks trading the same stocks or currency pairs as they are trading. These forums are available all over the Web for free.
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Tips & Warnings
Do not take paper trading lightly. Treat it like the real thing.
