How Does Forex Copy Trading Work?

Forex Copy Trading

Copy trading is popular since it can help traders to access the markets without spending time on trading. However, it is not just that simple and needs slightly more explaining. This article aims to cover if copy trading is something that you would like to consider.

The following copy trading topics will be covered:

  • Copy trading definition
  • Does a strategy provider /platform need to be regulated?
  • Who are the traders
  • How to analyse track records
  • Can I copy trades into my existing broker account?
  • Is there any latency?
  • What are the popular copy trading platforms
  • What are the costs that are involved
  • Is copy trading actually profitable?
  • Some useful tips before copy trading
  • Conclusion

Copy Trading Defined

Copy trading is a way for forex traders to automatically duplicate the trades that are opened, closed and managed by another trader using their own trading strategy. This method of trading is also often referred to as social trading.

An investors account is linked to the copy trader’s funds account. Any trading activity that is done by the trader, such as opening a position, closing a position, adjusting a stop loss order, is copied directly into the investors account.

The copying trader can have the option to control the risk and to disconnect copied trades and manage them themselves if they wish to. Copy traders can stop copying strategies at any time they please and can also add new strategies. The copied investors who provide their account to copy traders are often compensated by a flat monthly subscription fee, often performance based. Thus, it is on both parties interests the strategy is a successful one.

How Does Copy Trading in Forex Work
How Does Copy Trading in Forex Work

Copy Trading Regulation

In Europe, US, Australia and many more countries copy trading is a regulated service. In the instance that a trader is managing other traders accounts then they need to be registered as an asset manager. However, some copy trading platforms offer an “umbrella” which means that the trader himself does not need a license since the platform provider already is regulated. By registering a trading strategy, the trader automatically operates according to the regulation requirements.

In any instance, it is very wise to always check if either the trader or the platform is regulated as well as the broker. At least you will know that if they are regulated then they are more likely to abide by the regulator’s rules and regulations.

For example; if a trader’s advocates this: “join my managed account service and make 100% per month risk free” you probably have to do with an unregulated service. Now, is this a bad thing?
Not always, because this specific trader might live in a region where a license is not required. This also implies that if you still go with that service there is no address to complain in case your account goes south or there are other problems. Always understand the risks of using regulated or unregulated services.

Some companies can provide an algo copier service together with a strictly regulated asset manager.

Who are the Strategy Providers?

A reasonable percentage of traders use forex robots and copy trade platforms. Forex robot trading remains a popular option today for many traders around the globe.

Still, most traders use nick names and “cool” names like “fx guru”, “the ultimate money maker machine”, etc – seriously? Most would usually feel so much more comfortable knowing the developer behind the trading strategy. However, it’s not said that knowing who the developer is will also give you a good strategy. Common sense should be used before jumping into any trading strategy and the track record should be available and analysed.

How to read a Track Record?

Unfortunately, many forex traders only look at one thing and one thing only: how much profit can they make overnight, every day and every week. These people are often blinded by greed and can just click on a chart, see a very steep line up and think they found the best forex trading strategy in the world, the holy grail! You couldn’t be more wrong. Hey dreamer, get rid of them Dollar signs in your eyes, wake up and smell the coffee!

Thus, let us take a closer look at a trading strategy and see how to interpret the result. For this example, we will use a chart provided by the trading system verification service FXBLUE.

Important figures:

Draw down;
This is basically the same as the “stress factor” of a strategy.  How much can your account (equity) decline whilst copying it. Make sure you are aware of the risks of any system.

Profit factor;
The profit factor is the ratio of the net profit versus the net loss (in account currency terms). This ratio shows by how much the profit exceeded the loss. For example, a value greater than 1 means the strategy has generated more profits than losses. If a profit factor is close to 2 or even more you might have found a good strategy.

Number of trades;
This is very important related to the cost of copying the trades. A strategy that trades 5 lots daily in a $4K account can become very expensive. Thus, it is important to calculate before starting how many trades you would expect to do using a specific strategy.

Time;
How long has the strategy being running for. In case you can adjust the risk settings yourself and the strategy has a good description the time factor is of less importance but, a strategy that has been running for a long time can show it has survived through various market conditions.

Floating profit and loss;
Some copy trade platforms will not show the floating Profit or Losses (PnL). This can be extremely dangerous! Why? Because floating PnL means that even though you may see a great track record of close trades, there could be still an open trade that is in significant drawdown that would cause the overall results to look very different if it was closed. Thus, it is very important to make sure to check if the provider shows open trades or floating PnL and how the trades are looking.

Average winner vs average losing trade;
This is another important factor to consider. Why? Because it shows how the size of a winning trade compares to the size of a losing trade. If a strategy has losing trades that are much greater than the winning trades, then one losing trade could wipe out multiple winning trades. E.g. a system with an average winning trade of $100 but an average losing trade of $300, shows that one loss would wipe out 3 wins and thus the winning rate would not to be consistently very high.

iForexRobot Copy Trading
iForexRobot Copy Trading

Can I copy trades into my existing broker account?

It would be very useful if we could keep our own trading accounts and copy trading strategies we have studied and like the look of, understanding all of the risks of course!

However, wait a second!

Trading brokers and copy trading services need to make money to and thus most copy trading platforms are only connected to one specific broker. It would therefore be very beneficial to use a copy trading service that is connected to many brokers with a wide range of strategies to choose from. This can potential save from the hassle of having to open another trading account.

Is there any latency?

Copy trading should not be confused with high frequency trading (HFT). With HFT, a millisecond can make a big difference and can determine if the strategy is a winning or losing one, with a regular trade copier a few milliseconds does not always make a major difference.

However, it makes sense to check with the copy trade provider first since if latency is a few seconds this can potentially affect your trading results. Although all providers will talk about the super speed, it’s recommended to not have more than 100 milliseconds latency. If a trading signal is copied to late, it could be at an unsuitable price and affect the strategies overall performance.

Some trading copier services test their copier many times and some conclude that the average signal speed is 50milliseconds and therefore one of the fastest copiers in the industry.

Of course, a good internet connection is needed to reduce any latency issues. Some traders use a Forex VPS to help improve with latency speeds and ensure minimal down time.

Popular copy trading platforms

Here is a short list with some of the most popular copy trading platforms. Many brokers use a trade copier plugin, however this means that you have to open an account with that same broker.

Zulutrade.com
Etoro.com
FxPro.co.uk

How much does copy trading cost?

Usually, a copy trading platform will charge a marked-up fee on the spreads. The strategy provider usually charges a profit fee based on a monthly basis. Some even have a 50% profit share which could be considered quite steep in comparison to others. A one pip mark-up is common, or a flat fee (sometimes performance dependant), since the technology does not come for free. Up to 30% profit share is not considered a bad offer if you get a reliable, responsive provider and a strategy that suits your needs and has solid money management.

Is copy trading profitable?

How long is a piece of string?! It really depends on the strategy used, experience level of the trader, money management, market conditions and numerous other factors. What may have been profitable in the past will not necessary perform well in the future, that is just the nature of trading. What copy traders can do, is review historical performance and decide if they are happy to copy a strategy with full understanding of its potential and the risks involved. It should be noted that there are no guarantees on how any system will perform and historical results are by no means an indication of future performance.

Besides the quality of the trader and trading strategy that you follow it can also be wise to check the trading terms. Some platforms charge over 3 pips trading a major currency pair such as the EURUSD which can make it harder to consistently make profits, especially when copying an intra-day or scalping strategy.

5 tips before getting started

Before you consider if copy trading is something for you, have a look through the following check list:

  1. Is the strategy provider trading his strategy with his own money? If the strategy is that good, then maybe they should!
  2. Is the trader or platform regulated? This can offer some protection in the worse case scenario. Although, losses through a poor strategy may not be covered so make sure you fully understand the risks involved with trading before you start.
  3. What costs are involved? There will usually be a mark-up on the spread and/or profit share. Check it is acceptable and not overpriced.
  4. Can you adjust the risk settings to your preferences & overrule a strategy provider? This allows you to control the risk management and help to ensure that you are comfortable with the risk management.
  5. Can you choose your own trading broker? You should be able to choose a broker you feel happy with rather than being forced to use one that you may not want to.

Conclusion

Now we conclude with; is copy trading a good idea or not? Really, it depends on the individual trader and their goals. Some may not have the time or knowledge to trades and thus may prefer to use a copy trading platform. It is also important to be realistic with expectations and understand the risks involved with trading manually and/or copy trading.

Some platforms are great for beginners and advanced traders, with support teams on hand to assist. Many traders prefer to start with a demo account or small amount to test the waters and see how trading strategies perform.

In case you are looking for a copy trading service, you may wish to check out iForexRobot and their selection of trading strategies that can be copied. They even offer a free trial.

iForexRobot Free Trial Forex Robot
iForexRobot Free Trial Forex Robot

Click the image above to request your 30 days free trial with iForexRobot trade copying service.