Demo account: How and why should you use it?

Since the emergence of online brokers and democratisation of electronic trading, demo accounts have become an almost obligatory part of the brokers' offer. This tool provides a unique opportunity for traders of all skill levels, allowing them to study the market, test strategies and familiarise themselves with the functionality of trading platforms without the risk of losing real money. With the high volatility and complexity of the Forex market, demo accounts play a key role in preparing traders for real trading conditions.

What is a demo account?

A demo account is a trading account funded with fictitious money that allows traders to familiarise themselves with the trading platform and practice their skills and strategies in a real-world environment. Because demo accounts use virtual currency rather than real money, traders can use these accounts without taking on any financial risk. Often when opening a demo account, a fictitious amount of €10,000, €20,000 or €100,000 is credited to the account.

A demo account is usually activated for 30 days. More rarely, some stock brokers offer demo accounts without a time limit; this is when a client opens a real account but needs to keep the virtual one active for testing purposes. More often than not, demo accounts offer conditions almost identical to real ones, with real-time stock market prices.

Reasons to use a demo account

There are a number of advantages to using a demo account, and first and foremost it is a solution that gives you a chance to practice with dummy money. It is useful for beginning traders to make trades on a demo account and see how the markets react before investing real amounts. For beginning or experienced traders, a demo account is also a useful tool to learn how to properly use a trading platform. Each trading software has its own features and functionality. Switching from one software to another can be a frustrating experience for a trader. Needless to say, it is better to make a typo on dummy money on a demo account than on your own.

A demo account is also a fantastic tool to allow a trader to test new trading strategies in near real-world conditions, or a trader using trading algorithms to test their trading robots before running them in real-world conditions. Simply put, traders use a demo account to practice or run tests in real time and under market conditions very similar to real ones.

How to use a demo account?

It is best to use a demo account for a short period of time to learn new stock market software, or use it in conjunction with a real account to test new trading strategies. A trader can also use a demo account to test the flow of trades on an instrument that he or she is not used to trading. For example, a trader who has been trading EUR/USD for 2 years can try a demo order on oil before placing an order on a real account. This will give him a better idea of costs, spreads and pip price.

Finally, the trader profile that may need a demo account the most is a trader who develops trading algorithms. These algorithms, also known as robot traders or Expert Advisors (EAs), require numerous stages of testing and backtesting. A demo account is an ideal tool to conduct numerous tests, make adjustments to the algorithm and simulate past market trends. Especially since with automated trading, the trader's psychology is irrelevant. While there are many ways to use a demo account to your advantage, remember that the wrong way is to think that you are trading for real when you manage to show results in demo markets.

Benefits of demo accounts

Demo accounts have many advantages. Firstly, it is a free tool that gives you access to real-time stock market prices. Those who are older will remember how expensive it was twenty years ago to subscribe to the stock market news to get real-time stock market prices. Besides the fact that a demo account is free, you can usually reload it as many times as you like, for example, to test a new strategy on an empty account.

A demo account is an accurate and almost perfect replication of what happens in the stock markets on a daily basis. Finally, since leverage and margin rules can vary from stockbroker to stockbroker, a demo account has the advantage of allowing you to familiarise yourself with how a stockbroker calculates margin requirements and margin calls.

Disadvantages of demo accounts

Stockbrokers sometimes do not include brokerage commissions or overnight fees in the cost of a demo account. This is an important point that can make all the difference for a trader using scalping strategies, for example. So make sure that the demo account includes the brokerage fees that you would have to pay in a live account. Another disadvantage of a demo account is the size of the notional amount. Managing a €1 or €10,000 account involves very different trade amounts, tighter margin calculations and lower returns than managing a €100,000 account. We advise you to quickly calculate the size of the position you are going to take in real life using your allocated trading capital and get used to trading these amounts even in demo mode, without paying attention to the virtual balance you have in your demo account.

One aspect that is most often overlooked, the demo account does not take into account the liquidity of the market and your trades will be executed as if there is unlimited supply and demand in the order book. Therefore, slippage or rejection of a demo order is eliminated. This is an important point that surprises traders who move to the real market after testing scalping or HFT strategies on the demo. If we add liquidity and slippage components, the results obtained in demo and real trading can be quite different. It is not uncommon for a strategy to win on demo and lose in real trading, especially if it is a price sensitive strategy (scalping/automatic trading).

Tips for trading on a demo account

In conclusion, we would like to share with you a few tips and tricks to help you make the best use of your demo account and avoid some common mistakes traders make.

Firstly, feel free to open two or three demo accounts to compare the interfaces of different platforms. Even if the purpose of a demo account is to help a trader get used to the software, you will immediately see that there are platforms that you will be more comfortable working with and some that you won't. Remember that the trading platform you choose will be your working environment as an independent trader and you should feel comfortable with it.

Some traders have a preference for one software package or another, so decide on your choice by taking the time to open a demo account. Sometimes just 5 minutes is enough to realise that the platform does not meet your expectations. So don't rely on other traders' opinions that you read on forums or social media, because everyone's tastes and expectations are not universal.

Again, you should not spend months or years using a demo account as you risk instilling bad trading habits. Even if you are only using a demo account, which means you are not yet a client of the online broker, do not hesitate to reach out and ask for a support phone call where a support staff member will explain the features of the platform to you. This will also allow you to gauge the quality of customer service before you open an account.