Copy Trading, Pros and Cons of Using this Strategy

Copy trading is a relatively popular strategy in the market these days. It refers to the process of automatically copying trades from an experienced and high-performing trader and then paying them a small fee.

This technique may seem a bit useless for experienced traders, but it can help novices make some profit as they gain experience and see already developed strategies in action.

In practice, however, even the pros use it to diversify their trades and be able to operate in sectors they know less about (for example, a stock trader who wants to profit from fluctuations in gold or crude oil).

In this article, we will talk about what copy trading is, how it works, and some of the pros and cons.

What is copy trading?

The idea behind copy trading is relatively easy to understand. It involves letting an experienced trader execute trades in their account and then mirror this performance to other people.

As such, when they open a trade, it will then be automatically opened to traders who are copying it. In most cases, the experienced trader is known as the master while the copying trader is referred to as the copier.

Copy-trading was initially developed as a way of helping new and inexperienced traders make money in the market. The same goal happens today but we have also seen many experienced traders open copy trading accounts.

They do that as a way of maximizing their returns in the market.

Participants

There are three important parties in a copy trading environment. First, there is the online broker who provides the platform or ecosystem to trade. Not all brokers offer the service, meaning that you need to find one who does.

The broker provides the platform that connects traders in the environment. It also provides tools that help copying traders analyze the master traders' activities.

Most importantly, they help to vet people who can become master traders in their platforms. Ideally, they want people who have been around for many years and those who have demonstrable experience.

Second, there is the master trader. This is a person who has been in the trading industry for many years and one who has demonstrable experience in the industry.

Their role in this situation is to execute trades in their platforms and then they are mirrored to other traders. They make money by generating a profit in their accounts and then by taking a small commission.

Third, there are the copiers. These are people who subscribe to master traders. Their goal is to generate returns by just following people who have been in the game for years in return for a small fee.

How copy trading works

So, how does copy trading works? Copy trading works in a relatively simple way. A copier will find an online broker who offers these services. After this, they will often agree to terms and conditions of the copy trading platform. They will then be given access to a portal where they can analyze the performance of the master traders.

In addition to the performance, they can also look at the trading strategies that these traders use and the commission they take.

Finally, they deposit funds to their accounts and then start copying. Any time the master trader opens a trade, it will be mirrored to their trading accounts. As such, they will only be successful when the master makes profits.

While this strategy started with a focus on traders, it has now expanded rapidly such that it is possible to use it in investing. People simply copy investment portfolios of experienced professionals.

Assets you can copy trade

There are many assets in the financial market. Fortunately, it is possible to copy most of these assets since it mostly depends on the broker. Some of these assets are:

  • Forex - These are currency pairs like EUR/USD and GBP/USD. Copy trading was initially started with a focus on the forex market.
  • Stocks - These are shares of companies like Apple, Netflix, and Alphabet.
  • Cryptocurrencies - It is possible to copy trade digital coins like Bitcoin, Ethereum, and Ripple.
  • Indices - These are financial assets that track multiple assets. Examples are the Dow Jones and Nasdaq 100 (index trading strategies to adopt).
  • Commodities - These are assets like crude oil, copper, and wheat.

Some master traders focus on individual assets while others are experts in all of them. As such, they will always execute trades based on the assets that are doing well.

What you need to copy trade

There are several things that you need to copy trade. First, you need to find an online broker who accepts copy trading in their platform. You can use Google to find some of these brokers.

Second, you need the capital that will be allocated in this strategy. Some master traders require a minimum deposit so be careful about that.

Finally, you can use some YouTube channels to manually copy trades from experienced traders. For example, TraderTV gives you access to traders doing their game every weekday.

» Related:  Where Do Day Traders Get Their News?

When this strategy works (and when it does not)

While day trading is a good strategy, it does not always work. Its performance typically depends on the master trader.

If they are having a successful winning streak, then you will become successful. Therefore, some people mitigate this situation by copying trades from multiple traders. This is a good way of diversifying the trading.

Also, at times, the performance depends on the motivation behind the master traders. At times, the master will make more money in their “assets under management” instead of doing the real trading. Some even make over $1 million from these fees alone.

Pros and cons of copy trading

There are several benefits of copy trading. First, it is an easy strategy to use since all you need is an account and access to master traders. Second, it is a good way to diversify your returns. Further, it allows you to make money for a longer period.

On the other hand, there are cons such as market risks, liquidity risks (and liquidity is a key data to watch), and the fact that master traders are not always perfect. Further, your success will only depend on that of master traders.

ProsCons
Easy to adoptMarket risks
Diversify your returnsLiquidity Risks
Working even in longer periodsMaster trader mistakes

Copy trading vs social trading

Copy trading is a form of social trading. The difference is that in copy trading, you simply copy trades from one trader known as a master. With social trading, you use social media tools to execute trades.

FAQ

Is copy trading safe?

Yes. Copy trading is a safe trading strategy since the master trader does not have access to your trading funds. So, they cannot just take it and disappear.

Is copy trading legal?

Yes. Copy trading is a legal way to make money in most countries. It is unclear whether there are any strict guidelines that target the industry.

Is copy trading profitable?

Yes. Many people make money copy trading. But it is not without risks.

External useful resources

  • Social Trading vs Copy Trading vs Mirror Trading - Blockfer

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