Differences Between Online Paper Trading And Live Day Trading

When first enter day trading you would be wise to spend some time online "paper trading" before you trade with real money.  Paper trading (or "demo trading") will give you a rough estimate of whether or not your strategy has a good chance of becoming profitable.  What many beginning day traders forget, however, is that there is an entire world of difference between paper trading and live trading.  These differences can affect your profitability dramatically if you are not careful.

The first major difference is your psychology.  For most people, something changes inside them when they start trading with live money.  They abandon their strategies, do not adhere to their pre-defined money management rules such as a "percentage stop loss," and they take trades which do not fall within the realm of their strategies.  If you ask veteran day traders if they could get back the losses from only those trades when they did something outside of their proven strategies, they would probably give you anything if you could make that happen!

The second difference between online paper trading and live day trading is the discrepancy in getting shares executed at the prices you wish.  Most day trading software demo accounts allow you to send a limit order and get executed at any price you want, even if it is significantly away from the inside bid or offer.  If you execute a buy limit order at the inside bid it will show your order as executed in "demo mode."  In live trading, however, you are never guaranteed to even get 100 shares at that price, let alone orders with more size.  To counter this, consider using market orders or even limit orders which cross the spread plus a penny or two.

The third major difference between online paper trading and live day trading is with the order handling rules for each exchange.  Each execution route (such as ARCA, NASDAQ, or another ECN) has certain order rules which can prevent you from getting into (or out of) a position due to the order you sent.  For example, you may not be able to send a Market-On-Close order (MOC) on certain exchanges within the last minute of the trading session if there is a significant imbalance.  If you wish to learn more about the various order types, visit each exchange's website and look up the order processing rules for specific types of orders.  For now, stick with generic market and limit orders while paper trading because more advanced orders (such as reserve orders, peg orders, and discretionary orders) will not accurately reflect reality when in demo mode.

Once you finish your strategy testing with online paper trading, consider starting with small shares.  You even may wish to start with small share sizes in the lower-priced stocks, unless your strategy dictates a specific price range.  This way your "tuition cost," a term veteran day traders call the money you spend making mistakes while learning during your first attempts in day trading, is kept to a minimum.  Note any differences in your own emotions during this transition period.  Most successful traders recommend that you keep a trading journal which contains your thoughts and emotions.  A second journal with your entry and exit transactions would be wise to maintain during your first few months as a day trader; printing out the charts and making notes on each trade might be a valuable learning tool as well.  Finally, consider reading some of the better books on trading psychology to learn from those who have already been where you are today.