What is a Mirror Trading? – Benefits and Limitations

What is a Mirror Trading? – Benefits and Limitations

Investors use the Mirror trading methodology primarily in forex markets. This strategy allows them to copy the trades of successful and experienced forex investors and then implement the same trades, in almost real-time, in their own accounts.

Mirror trading was only available to institutional clients at first. However, now it is available for retail investors through various means. Mirror trading has inspired other similar strategies, including copy trading and social trading, since its inception in the mid-to-late-2000s.

Inventors can employ Mirror trading in both forex and stock markets, but it is much more common in forex trading. Later, Mirror trading became a more acceptable alternative for investors to consider as information and transparency tools are boasting much better quality.

How does it work?

The most important thing about it is likely the fact that Mirror Trading’s automated nature can help prevent investors from making emotion-based decisions during the trade. The traders often use a brokerage’s trading platform to examine the details and histories of various trading strategies in the forex markets. On the other hand, they typically use broker services or a third-party site in the stock market.

Researching performance characteristics is the first step. After that, the trader chooses an algorithmic trading strategy from the available options based on their investment capital, investment goals, risk tolerance, and desired assets to invest in.

Let’s say a trader has a minimal risk tolerance. In that case, they may choose to mirror a strategy that also has a low maximum drawdown. After strategy developers execute their trades, these trades are duplicated in mirror traders’ accounts thanks to automated software that operates 24/5 with the intention of replicating similar results. There are lots of forex brokers that offer mirror trading.

What are Mirror Trading’s benefits?

Such trading reduces emotions as it determines when a trade gets opened, amended, or closed. So, it essentially removes the stress of making trading decisions. That is very helpful for new investors who often find the forex market overwhelming at first. Investors can just check their mirror trading account’s performance at the end of each week instead of worrying about the market’s day-to-day fluctuations and determine if they want to continue using the strategy.

Furthermore, Mirror trading promises verified results. Forex brokers that offer such trading usually test and validate the trading results of strategies that they upload to their platform. The process helps filter out losing trades. Before accepting a new strategy, a broker may require it to have a 12-month track record of profitability. Furthermore, if you plan to select a forex broker that offers mirror trading, you should ask how a strategy’s results have been verified. It’s important to ensure it has gone through righteous testing.

What are Mirror Trading’s limitations?

The major limitation is the robustness of strategies. For example, some mirror trading strategies may provide good results only under certain market conditions. A strategy may perform well in trending markets. On the other hand, it may underperform in rangebound markets, though. That’s why investors should test the results of a strategy in various market environments if they want to ensure its robustness.

Besides, it is easy to see if a mirror trading account is generating a profit, but it is much more difficult to determine what risks were taken to make the profit. Take a strategy that has returned 300% over the past 12 months. While it may look great initially, further analysis of the strategy may reveal that to achieve that result, and the trader would have had to endure an 80% drawdown on their capital. So, it’s better to consider all aspects carefully before committing to the platform offering such services.