How to Practice Options Trading: A Beginner's Guide
Many people put off beginning their options investing journey because they simply never learned how to trade or are scared to risk their hard-earned cash.
Due to its inherent complexities and the specialized knowledge required to navigate it successfully, options trading was once a type of investing only carried out by financial professionals and market makers. However, advancements in technology and the rise of online trading platforms have democratized access to options trading. Now everyday individuals can learn the ropes and develop their trading skills through user-friendly tools and resources.
One of those tools? Paper trading. Read on to learn more.
What is paper trading
Paper trading involves trading or investing in a simulated environment that mimics the stock market using virtual money. In other words, you are not risking any of your own capital (think of it as 'pretend paper money'). Despite not using your own cash, you are still gaining exposure to the realities of the stock market's daily movements and how they can impact your investments.
Depending on which paper trading platform you use, you may be able to gain exposure to the 'fees' that are associated with investing. Fees can sometimes catch new investors off-guard, and failing to factor in the fees associated with your trading can see you lose more money than you had first thought. Paper trading platforms that include fees (i.e. fees that will be subtracted from your virtual funds), such as moomoo, can be a helpful way for investors to get used to this important part of trading.
Why practice options trading before placing real trades
When learning a new skill, practical experience can be invaluable. Think about learning to drive a car — you can study for months but at some point, gaining hands-on experience is the only way you are likely to improve! The same can be said for trading. There are plenty of how-to guides available for traders and investors but without physcially trading or investing, it's hard to improve your skillset or build your confidence.
Paper trading is also a great resource for mid-level and experienced options traders wanting to test out unfamiliar products and new strategies and see how their virtual investments respond to the financial market. By engaging in paper trading, the risk is removed from the situation because there is no real money being traded. It can be an effective way for traders to build confidence in new trading techniques and asset classes. If you later choose to invest real money in the stock market, you'll hopefully be able to do so with a more comprehensive understanding of how market movement will impact your positions.
Paper trading vs. live trading
The 'realism' element of paper trading will depend upon which platform you use. For the sake of this article, we will compare moomoo's paper trading to moomoo's live trading functionality. Your paper trading platform of choice may differ in terms of functionality.
The moomoo paper trading tool is helpful as it mimics the real-time market conditions closely. It allows users to experience trading without the risk of losing actual money. This realism helps in developing effective trading strategies and building confidence.
However, while paper trading offers many benefits, it does have some limitations. The most significant is the lack of real emotional engagement. When actual money is not on the line, traders might take risks they wouldn’t normally consider, which can create a false sense of security.
Live trading on moomoo involves real money and, therefore, real emotional stakes. This adds a layer of pressure and helps traders develop discipline and risk management skills. The live market can be unpredictable, and the stakes are higher, making it crucial for traders to remain calm and make well-informed decisions.
Some traders believe in combining both paper trading and real trading as a way of gaining a comprehensive trading education, preparing them for the realities of the market.
On moomoo, paper trading can take place within intraday trading. This means that moomoo's paper trading platform allows users to simulate and practice intraday trading, which involves buying and selling securities within the same trading day. Users can replicate real-time intraday market conditions and test their strategies without using actual money.
How to practice options paper trading
Each platform's paper trading tool will vary in layout and design. A great way to prepare yourself for trading with real money is to use a paper trading tool that closely replicates your trading platform of choice.
On moomoo, the options paper trading platform is designed to look like 'the real thing' which means that once you graduate from paper trading, taking your first steps should be less daunting.
To practice options paper trading on moomoo, open the platform on your desktop, web browser, or phone and navigate to the 'Paper Trade' section> select 'Options' > 'US Options Paper Trading'.
On web browser
Images provided are not current and any securities are shown for illustrative purposes only and are not recommendations.
On moomoo app
Images provided are not current and any securities are shown for illustrative purposes only and are not recommendations.
Once you have decided on a specific option to virtually trade, you will then need to establish your order position by submitting an order for execution.
Enter the underlying symbol
Decide on order type (market order or limit order)
Decide on your strike price
Decide on the number of contracts you want to purchase or sell
Once your simulated order is submitted (note: no real order is actually placed), you will be routed to the market.
Strategies to explore for options paper trading
Below are a few option trading strategies — using stocks as the underlying asset — to get to know.
Long call
A long call gives the holder the right to buy a stock at a set strike price before expiration. Your theoretical maximum loss is the premium paid, and the option can expire worthless if the stock doesn’t rise above the strike price plus the premium. Profit occurs if the stock price exceeds this level by expiration.
Covered call
This strategy combines holding a stock with selling a call option on it. You receive a premium but cap your potential profit at the strike price plus the premium. You face losses if the stock price falls below the stock purchase price minus the premium.
Long put
Buying a put gives you the right to sell a stock at a set strike price. You lose the premium paid if the stock doesn’t fall below the strike price minus the premium. Profit occurs if the stock price drops below this level at expiration.
Short put - cash secured
Selling a put option earns you a premium. Losses can occur if the stock falls below the strike price minus the premium by expiration. With a cash-secured put, you hold enough cash to buy the stock at the stock price if assigned.
Married put
This strategy involves buying a put option while holding the underlying stock. It provides protection against stock price declines past the strike price during the life of the option, with losses limited to the premium plus any stock price drop.
Long straddle
A long straddle involves buying both a call and put option with the same strike price and expiration date. Your theoretical maximum loss is the total premium paid, and profit occurs with significant stock price movement in either direction.
Pros and cons of options paper trading
Potential benefits of paper trading options
Learn without risk: Paper trading lets traders practice options strategies without risking real money, providing a safe but realistic environment to learn and experiment.
Test strategies and gain a better understanding of the market: See how different strategies perform under different market conditions and how different market conditions affect options pricing.
Grow your confidence: Become more familiar with the trading platform of your choice and order execution processes.
Track your performance: Track and analyze your paper trades to help identify your strengths and weaknesses in your trading approach.
Potential drawbacks of paper trading options
No real financial stakes: Paper trading lacks the emotional intensity and stress associated with real money trading, which is an essential aspect of trading psychology.
Execution differences: Paper trades often get filled at the ideal price, whereas real trades may experience slippage and partial fills, leading to different outcomes.
Market conditions are not always realistic: Some market conditions and behaviors, such as liquidity and volatility, may not be accurately replicated in options paper trading.
Overconfidence: Successful paper trading may lead to overconfidence, which can result in traders taking excessive risks when they start trading with real money.
No real gains: There is no real money involved, so you can't make a profit. Some people may find this demotivating.
FAQ about options paper trading
Is there an app to practice options trading?
Traders, investors, and investors-to-be can practice options trading on any platform or app that offers options paper trading. Moomoo offers free options paper trading for all its users, including those that have not opened a brokerage account or those who have yet to add money to their account or place a trade.
How to find options trading education easily?
Options trading is complex in nature and learning how to trade options can take some time. You can find free educational resources online that can help you to learn how to trade options. Moomoo has options training resources available in our learning centre, including helpful how-to articles and guides. We also have information on how to trade options on moomoo specifically. After learning the theory behind options trading, options paper trading offers learners a more practical way to learn the ropes.
Can a beginner trade in options?
Options are most commonly traded by experienced traders who have a certain level of familiarity with the stock market. This is because options trading involves many different specialized strategies and a deep understanding of market dynamics. However, with proper education and practice, beginners can also learn to trade options. It's crucial for new traders to thoroughly study the basics, perhaps starting with simpler strategies, and consider paper trading to gain experience without risking real money.
Is paper trading profitable?
You can't make a profit from paper trading because there is no real money being traded. Paper trading is done using virtual money to allow people to practice trading in a simulated environment that mimics the stock market, that doesn't allow for any real money to be traded, or therefore, lost.
How long should you practice paper trading?
There are no strict rules requiring you to do paper trading before executing a real trade, nor are there specific guidelines on how long you should practice if you choose to do so. The decision to paper trade is entirely personal, but it can be a valuable tool for minimizing mistakes that could potentially lead to financial losses.
Can paper trading enhance my performance in real trading?
You've likely heard the saying, "practice makes perfect." While there's no guarantee that paper trading will lead to better performance in real trading, it can help to enhance your understanding of how market movements affect your portfolio. It also offers valuable practical insights into the intricacies of trading fees and the process of executing trades.