In today’s Cryptocurrency Traders Guide, we learn about social trading & copy trading, their key features, benefits and risks, and explore their resurgence alongside the rise of Bitcoin and crypto copy trading platforms.
History of Social & Copy Trading
The social trading phenomenon started in the early 2000s, when primitive versions appeared in the form of email, newsletters, and chat rooms. With the advent of social networks in the Web 2.0 era, these quickly evolved into social sharing and social investing platforms, characterised by transparent social environments for traders and investors to share information and interact with one another.
Tradency pioneered copy trading (also called mirror trading) in 2005, combining social trading with automated trading systems to enable investors to replicate another trader’s actions automatically. The concept has been popularised by the likes of eToro and Zulutrade who continue to dominate social trading and copy trading today.
More recently, we are starting to see a resurgence of interest in social and copy trading platforms, no doubt partly thanks to the growing popularity of Bitcoin and cryptocurrency trading. eToro claims that over 80% of their users trade or invest in cryptocurrencies, while Covesting raised over US$15m in an ICO for their cryptocurrency exchange and copy trading platform.
Why Social & Copy Trading?
Trading and investing in the cryptocurrency and capital markets require considerable time, effort, knowledge and experience. In order to consistently make a profit, one needs to keep abreast of the latest news events affecting the markets, learn how to read charts, analyse reports, and understand trends.
However, trading and investing is difficult, and a common saying is that 95% of traders lose money. It is no surprise that many people continue to lose their hard earned money in the financial and cryptocurrency markets, simply because they lack the knowledge and experience of how to and when to invest.
That’s where social and copy trading come in handy in helping traders and investors overcome these challenges.
What is Social Trading?
In social trading, traders share their trading strategy and price predictions on an online platform, allowing investors to observe the trading behaviours of their peers and leader traders and follow their investment strategies. Traders can interact with others, watch others take trades, then duplicate their trades and learn what prompted the top performer to take a trade in the first place, helping to shorten the learning curve from novice to experienced traders.
Social trading platforms combine social networks with traditional online trading platforms and provide a wealth of sentiment data. In addition to fundamental or technical analysis, sentiment analysis provides an alternative way of analysing financial data by looking at what other traders are doing and comparing and copying their techniques and strategies, or sentiment analysis.
Social trading requires little or no knowledge about financial markets, and has been described as a low-cost, sophisticated alternative to traditional wealth managers by the World Economic Forum.
What is Copy Trading?
Copy trading is a common feature within social trading platforms, which combines automated trading with social trading. In a typical copy trading platform, users have access to leader traders’ trading history and strategies. Upon finding a trader reliable, a user can link a portion of his funds to that trader’s account. Any position that the leader trader takes thenceforth is copied to the copying trader’s account too.
For early-stage investors who don’t know where to start, copy trading can be a good starting point for learning, allowing them to simply follow and copy the strategies of other traders automatically.
By copying trades, traders can engage with the community and learn from other trader’s strategies what works and what does not work, consequently becoming better traders themselves.
Key Features of Social & Copy Trading Platforms
- Transparency: Social and copy trading platforms reveal traders’ performance statistics, open and past positions and market sentiment, giving members complete information to assess the credibility of the contributors they follow on the platform.
- Information flow: Social and copy trading involves the flow of information between traders and investors, for instance when a trader is explaining an idea or decision made.
- Cooperative trading: Social and copy trading offers traders the opportunity to work together in trading teams which can trade the markets collaboratively, sharing information that can be useful for others.
Benefits of Social Trading Platforms
Social Trading is a fairly well-researched topic in academia. Some of the findings include:
- Social trades outperform individual trades (Pan, Altshuler & Pentland, 2012)
- Social trading platforms provide access to hedge funds-like returns, while offering high transparency, liquidity and accessibility (Doering, Neumann & Paul, 2015)
- Social trading platforms erode the disposition effect (Gemayel & Preda, 2018; Gemayel, 2016)
These benefits come about because social trading platforms are environments with high information transparency, that rewards good performance while promoting constant scrutiny from participants.
Under such a setting, traders may exhibit a heightened sense of self-consciousness such that they become more aware of the consequences associated with displaying poor performance. Therefore, they would adapt their behaviour to avoid displaying poor outcomes by limiting losses instead of holding on to them, and seek to realize larger gains in order to showcase their superior trading skills.
Social traders learn not only from their own trades and reports, but also from the trades of others to adjust for behavioural biases such as the disposition effect, which refers to the tendency of investors to sell assets that have increased in value, while keeping assets that have dropped in value.
Potential Downsides of Copy Trading
A lot of adverts give us the false impression that copy trading is the solution for all our problems, which goes without saying it’s not necessarily always the case.
Copy trading can also lead to investors losing money, since it’s hard to find traders who consistently profit from their trades. Copying traders with relatively large position sizes can lead to copy traders losing their whole accounts, while for instance the leader trader might be trading their accounts with much lower risk.
When copy trading, it is highly advisable to start with a small part of your account in order to test the waters and see how it works in your account.
Social & Copy Trading Platforms in Crypto
Social trading and crypto copy trading platforms have become more popular in recent years. Each platform offers a distinct approach, ranging from cryptocurrency exchanges, to API trading platforms, and other types of social networks. Let’s look at 3 such platforms in crypto trading.
Launched in 2007, eToro is the world’s leading social trading platform. Their foray into cryptocurrencies started in 2015 when they first introduced cryptocurrency trading. eToro currently boasts a user base of over 9m users, and raised US$100m in their Series E round in 2018.
Covesting raised over US$15m in their ICO in 2017 to build a cryptocurrency exchange and copy trading platform. The COV token is used to reward traders for sharing their trades and unlock features like copy trading.
Aluna is a multi-exchange social trading terminal. It is currently free to use and offers copy trading across many of the world’s top crypto exchanges via API trading. Aluna is not an exchange and does not hold custody of users funds.
Social and copy trading platforms can potentially provide multiple benefits for investors and traders. So the question really is, why not?