If you’re new to trading or looking into different ways to trade, copy trading might seem like an easy and profitable way to get involved. After all, copy trading allows you to mirror a trader’s successes. Of course, you might just end up mirroring their failures instead.
Copy trading is a branch of social trading, where one trader’s positions are copied by another trader’s account when they are opened or closed. This can be either automatic or manual – and it’s up to an individual to decide how they would like to approach copy trading.
The aim of copy trading is to profit from other people’s good decisions. But nothing is guaranteed in the trading world. Even the very best traders get things wrong, and if you’re copying them, their losses become your losses.’
What is copy trading?
It’s all in the name! Copy trading allows you to directly copy the positions taken by another trader. You decide the amount you wish to invest and simply copy everything they do automatically in real-time – when that trader makes a trade, your account will make that same trade as well.
You do not need to have any input on the trades, and you get the identical returns on each trade as your chosen trader.
Copy trading is one of the easiest ways to use another trader’s expert knowledge. It also means that you don’t lose any control over the outcome. You still have the ability to close trades, and open new ones when you want.
But by copying another trader, you could potentially make money based on their skills.
In fact, no advanced knowledge of the financial market is required to take part!
How does copy trading work?
Copy trading works by relying on social networks and social trading systems. When one trader opens a position, they can broadcast this information to other traders on the network, who can then decide whether they want to open the same position – or their automated trading systems can do it without additional input from the trader.
Often, the primary trader who broadcasts their positions has experience in the underlying market – and the copy traders might lack experience in this specific market, or they might be entirely new to the financial markets as a whole.
Forex copy trading is a popular strategy, because price movements are often small but frequent, and constant monitoring is required. Copy trading in forex means that a trader can simply copy another trader’s positions rather than scanning the fast-moving forex markets themselves.
The Story of 'copy trading'
The history of copy trading goes back to 2005 when traders used to copy specific algorithms that were developed through automated trading. Brokers recognised the potential of having systems where any linked to that trader could automatically copy their trading account. There was no need to constantly monitor email signals or trading ‘chat’ rooms. We think they were onto something…
Out of this were born Etoro and Zulutrade who allowed traders to connect their personal trading accounts to their platform. Traders no longer had to submit their specific strategies. The popularity of copy trading has since exploded.
According to a recent survey…
- 1 in 3 say a traditional stock market approach is over-complex and this can be simplified by automatically following traders
- 1 in 4 investors said they were considering Social trading last year
- Social trading platforms are expected to grow to €40bn in 2020 (annual growth of 96%) and €70bn in 2025 (annual growth of 48%)
How to Be a Copycat
Copycat investing is more widespread than one would think, although it is often done discreetly and without much fanfare by institutional investors like mutual funds and hedge funds. But the idea of latching onto someone else’s investing ideas seems to have caught on among retail investors. Back in 2012, Boston-based research firm Aite Group named “copy trading” as one of the top ten wealth management trends in January of that year.
The earliest copycat investors would routinely scour regulatory filings from mutual fund companies to discover which stocks star managers had loaded up on in recent months. Nowadays, online value investing research companies such as GuruFocus offers an alternative to this arduous process by tracking and displaying holdings of the best investors and investment managers.
The trend of “mirror investing” has copied the copycat strategy and taken it one step further. Services such as TD Ameritrade's Autotrade enable an investor to link investment accounts to portfolios actively managed by other investors or investment professionals, and automatically mirror every investment move that the latter make within specific allocations set by the investor.
The obvious difference between copycat investing and mirror investing is that the former attempts to duplicate trading ideas only of well-known and recognized investment gurus.
Who Should You Copy?
Investors considering a copycat strategy should consider replicating investment ideas from the following sources.
Successful Money Managers
All institutional money managers with over $100 million in qualifying assets are required to file SEC Form 13F quarterly detailing their investment holdings. This is a great source document for copycat trades.
Copycat investors would be much better served by getting ideas from long-term managers who believe in buy-and-hold, rather than investment pros who are short-term traders. This is because the time lag between an actual trade and its reporting may be a detriment to effective trade replication. It's better to go with someone like Buffett, who has often been quoted as saying, “our favorite holding period is forever.”
Activist investors like Carl Icahn can usually cause a stock to appreciate as soon as the news of their involvement in the company becomes public. Icahn often shares his investment plans through Twitter, which makes it easier for copycat investors to act on them rather than waiting for regulatory filings.
The Bottom Line
While copycat investing has its risks, common-sense measures—such as following successful investors, exercising patience, looking for accumulation, diversifying with different sectors and conducting your own due diligence—can help you become a (near) perfect copycat and improve your chances of investment success.
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