The dangers of a demo account in trading

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I'm the first to say, a demo account is a mandatory step in learning how to trade. It enables novice traders to train, to find a trading strategy, to learn money management rules, all without risking a single euro. But, using of a demo account also has perverse effects and can be dangerous for a trader's psychology.

From a demo account to trading addiction



For brokers, demo accounts are premium products. They attract a lot of people to the financial markets. Demo accounts allow you to try trading without any risk. They boost novice traders’ confidence. Traders can raze 1, 2 or 3 demo accounts, it doesn't matter. The important thing for brokers is that they trade, they have a foothold in the markets. After opening a demo account, there are few people who do not open a real account.

Trading is a dream activity, it gives traders feelings of freedom and simplicity. Trading also generates a lot of emotions (adrenaline from the first winning trades, etc.) that the brain keeps in mind and internalises as pleasure. Once the pleasure of a winning trade is felt, combined with the lure of profit, it is difficult for novice traders to let go of trading.

A demo account allows you to discover this feeling of freedom and pleasure. This is the first step to a trading addiction. It can be observed that even traders who have had bad trading experiences still end up coming back a few weeks or months later.

Higher expectations



When you open a demo account, the broker usually credits the account with at least €10,000. This amount is then used as a reference point for accounting for performance. The problem is that it is very rare for novice traders to calculate their profits as a percentage. They think in terms of money. If a trader makes 10% on the month, he sees +1,000 on his trading account. This is where his appetite for profit develops. He then thinks that it is easy to make a lot of money.

Effectively, on a demo account (since there is no real money at stake), it is rare for a novice trader to spend a lot of time on it. He will spend some time trading from time to time and is not fully dedicated to trading. When he starts winning on a demo account (it always happens eventually), he tells himself that, compared to the time he spent there, the performance is really high. And without any stress!

Thus, when the trader switches to a real account, he will try to reproduce this performance, or even exceed it by trading more. This is the result of his work on the demo account. The problem is that his disposable capital is rarely the amount required. Few traders have or wish to invest €10,000 from the first real deposit (and this is not recommended!). Most traders will deposit between €500 and €1,000. With 10 to 20 times less capital, they try to replicate the performance achieved on the demo account and therefore take risks to achieve this. In vain, of course. If you do not apply strict money management and take too much risk, you always eventually end up losing your capital. The important thing on the financial markets is not to win but to try to last. The sooner you understand that, the sooner you can win.

A biased notion of risk



On a demo account, traders do not usually apply money management. They do not risk their money so why force themselves to comply with risk management rules? It is obviously a very bad habit because they will replicate this behaviour later on the real account (this time with their money at stake). After all, it is their money, free for them to throw it away.

The worst thing about all this is that they see money management as a bulwark to performance. Novice traders rarely think about risk at the beginning and only about potential gains. Why apply money management when they have managed to earn €1,000 on a demo account in just a few trades? These traders forget that they have razed 2 or 3 demo accounts before succeeding, and they see the real account as a result of their work on a demo account. They have finally managed to line up a few winning trades and are then convinced that they have found the magic formula to win every time. In trading, there are phases of gains but also losses even for the best traders. If you do not accept this, you cannot earn money on the financial markets. You can spot a good trader by the way he manages losing phases. That's why you should get used to respecting money management rules on a demo account from the beginning.

Bad trading habits



On a demo account, novice traders generally do not have a clear trading strategy. They open a position without any real buy/sell signals, on a feeling. They are simply looking to line up some winning trades and see their demo account increase, no matter how they do it. When they later arrive on a real account, they will make the same mistakes and get lost when they line up 2 or 3 losing trades. Because yes, losing trades are part of trading.

Since the trader does not have a clear trading strategy in mind, he no longer knows what to do. Not having followed money management rules most of the time, he will then either stop himself and no longer trade, or move on to one final trade. That final trade is the moment when the trader takes the maximum risk to try to make up for his loss as quickly as possible. I’ll let you guess the outcome.
The demo account is there to help you find a strategy and allow you to test it without risking your money. When I say test it, it doesn't mean test it on 2 or 3 trades but over at least several weeks. This enables you to have confidence in your trading strategy in loss phases, not to question it from the first losing trade.

Conclusion



On a demo account, it is important to apply the same rules as on a real account. It is better to follow a trading strategy (first find it and then test it), respect the money management rules and above all get used to thinking in terms of percent (not of money). When you move to a real account, the transition will be easier. The only unknown factor is then management of your emotions, but at least you have already developed the right trading habits. Remember, the key to trading is not to win, but to last. If you do anything on a demo account, you will do the same on a real account or you will end up losing all your capital.

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