ELI5: Copy Trading Explained to a 5 Year Old
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Editor’s note: This series of articles, “ELI5” refers to the famous acronym “Explain it to me like I’m five.” The goal is not to infantilize the reader but simply to give them the keys to understanding concepts encountered in the crypto world and the trading world.
If you’re in the world of crypto-currencies or the traditional stock market, then you’ve probably already heard of copy trading. However, that doesn’t necessarily mean that you know what it is exactly. But fear not, we’re going to explain it all to you.
In this article, we’ll go over what copy trading really is. We will explain in detail how it works and analyze whether it is a good way to make money without too much effort or, on the contrary, something to be avoided at all costs.
How copy trading works
As the name suggests, the way copy trading works is fairly easy to guess. On some platforms, you have the opportunity to follow the trading operations of other investors. You can see their results and sometimes even chat with them. This is called social trading.
But copy trading takes things a step further. When you like a trader, you have the ability to follow what they are doing automatically. With a few clicks, you can tell the platform that you want to copy all the trades that the person you are following is going to make.
As you can see, there is nothing rocket science about copy trading. It’s quite simple, but choosing the right traders to follow automatically is a bit more complex.
Is this a safe way to make money?
When you invest, whether in the stock market, cryptos or other financial assets, there are always risks. It is not possible to know for sure what the future will hold. Because of this, even copy trading presents risks for investors.
Let’s take the case of a trader with good results over the last five years. You would naturally assume that this is a person with good skills. It is, therefore, quite logical to choose to copy the trades he has placed because it should make you money in the future.
Unfortunately, there is no guarantee that their future results will always be this good. As the saying goes, “past performance is not indicative of future results.” This is because the trader may have had a lot of luck in the past few years, or the market behaviour may have changed dramatically, and the person concerned has not been able to adapt to the new environment.
PrimeXBT is one of the platforms that offer copy trading functionality.
Diversification, the key to success
However, if you practice what is called diversification, you significantly reduce the risk that all trades will start losing money. By placing your investments in different people with good results, you should, in theory, have several who will continue to make money.
For example, if you decide to copy trade on 20 different people, placing 5% of your capital on each of them, it is very unlikely that they will all end up losing money.
Similarly, on some platforms, you can copy trade on cryptocurrencies, but also on traditional markets, commodities or Forex. By choosing to follow traders with good results in these different markets, you drastically reduce the risk of your crypto trading portfolio.
Copy trading: what you need to know
As we have seen, it is basically copying another person’s trades automatically. However, you need to choose the individuals carefully you are going to follow to make sure they are competent. Otherwise, you risk losing money.
Similarly, you should diversify as much as possible in order to limit your risk considerably. Just because someone has been good in the past does not mean they will be good in the future. You limit the risk of losing money by spreading your capital over different traders.
If you want to try copy trading, PrimeXBT launched Covesting in 2020. It is a copy trading module that allows users of the site to literally copy the trading strategies of professional or very experienced traders.
Current Bonus Plan: When you first register at PrimeXBT and make your deposit, enter the code CRYPTONEWS7000 to get your bonus as a reward in your trading account, equal to your deposit (up to a maximum of $7000). Full details here.
Crypto projects can be subject to volatility, don’t invest more than you can afford to lose.