Social Trading: A New Way to Trade on the World’s Financial Markets

by Justin on September 15, 2017

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“Throughout my financial career, I have continually witnessed examples of other people that I have known being ruined by a failure to respect risk. If you don’t take a hard look at risk, it will take you.” – Larry Hite

There are many different ways for traders and investors to access the global financial markets. People are continually looking for new ways to trade profitably. Social trading or copy trading is one of the new ways that allows traders to trade successfully. In other words, a senior market analyst at Weiss Finance  noted that social trading is based on the premise that the “collective wisdom of many traders is better than the wisdom of just one investor.

What is a social trading network?

Simply stated, a social trading network connects investors around the world, allowing them to share their analyses of the financial markets – and their trades – in real-time.

To participate in copy trading, an investor needs to open an account with a specific social or copy trading platform such as eToro or Ayondo.  In practice, he signs up, deposits his funds, and then looks for the best performing traders on the platform. Once he has selected a couple of traders with successful track records to follow, he can set the trading software to copy their exact trades automatically. In theory, he will generate the same returns as the professional traders he is copying in an entirely hands-off manner.

The pros of social trading

There are many advantages to social trading. Here is a list of the more important benefits:

Provides easy access to the online trading market

Social trading or copy trading opens the doors for a greater number of people to participate in trading or investing in the global financial markets without the hassle of learning how to interpret the markets as well as attempt to determine the impact of the current wave of global socioeconomic and geopolitical instability on the world’s capital markets.

Beginner trader success

Possibly the biggest advantage of social trading is that it allows the beginner trader or the less experienced investor the opportunity to invest successfully by copying successful investors’ trades. This, in turn, reduces the beginner trader’s exposure to risk and allows him to learn the tricks of the trade as it were.

Permanent investor success

A trader might prefer to copy other successful traders on a permanent basis. He might not have the knowledge, or skill to interpret the stock market conditions and signals, nor does he have the time to learn how to invest successfully on one or more of the global financial markets. Therefore, it suits his purpose to continue to copy one or more successful traders.

The consequences of this decisions are twofold: The risk of losing his investments by opening an account on a social trading platform is minimized while the traders he is copying are investing profitably. However, if the same investors start placing losing trades, then the investors will lose his initial investment along with these traders.

An effective educational tool

By watching experienced traders trade, beginner traders can learn to interpret trading signals, analyse technical indicators such as momentum indicators and oscillators, as well as follow the different trading styles. Ergo, some traders will make trades mainly based on news events related to the assets they are trading on, while other investors rely primarily on signal algorithms as well as machine-generated tips and messages.

A means of communicating with other traders

Richard Cox noted in 2013 already that the “rise of the social trading platform is a direct expression of the need to converse with other investors.” Therefore, social trading platforms offer investors a way to discuss potential trades with each other; thereby, avoiding unnecessary losses. Group trading also allows investors the opportunities to capitalise on new investment opportunities that might have been missed if each trader was trading on his own.

Keeping track of open trading positions

If more than one trader is keeping an eye on all open trading positions, it is easier to watch for unexpected market changes to take preventative action should the markets turn and you need to close your trading position sooner than originally anticipated.

The disadvantages of social trading

As with all good things, there is always a downside. In the same way, there is are shortcomings with the social trading model:

Dependence on other traders

Automated social trading’s biggest downfall is that the trader is dependent on other traders to make investment decisions for him. While on the one hand, this will reduce his exposure to risk; however, it can also increase his exposure to the risk of losing his investment. In other words, if the traders he is copying are successful, he will be successful. However, should they have a run of bad luck, it will also impact on his trading success and the money he initially invested when opening an account with a social trading platform.

Getting caught up in a scam

As with all online trading opportunities, one of the most difficult tasks is choosing a bona fide social trading platform. There are fake platforms and scams in the same way that there are fraudulent online trading brokers. Therefore, the most important part of joining a social trading network is to make sure that a potential investor chooses an above-board, legitimate social trading platform to participate in the social investment experience.

Final words

Social trading or copy trading when utilized correctly can be a great way for beginner and advanced investors to trade successfully and to grow their wealth portfolios. However, caution must be exercised when choosing a social trading platform as well as when selecting which existing traders to follow.

Additionally, as the quotation mentioned above by Larry Hite, it’s vital to respect the role that risk management plays in all forms of online trading, albeit copy trading or trading directly through a broker. If traders ignore the importance of limiting their exposure to the risk of losing money, then they run the greatest risk of losing their entire investment.

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