Paper trading (sometimes also called "virtual stock trading") is a simulated trading process in which would-be investors can ‘practice’ investing without committing real money.
This is done by the manipulation of imaginary money and investment positions that behave in a manner similar to the real markets. Before the widespread use of online trading for the general public, paper trading was considered too difficult by many new investors. Now that computers do most of the calculations, new investors can practice making (losing) fortunes time and time again before actually committing financially. Investors also use paper trading to test new and different investment strategies. Stock market games are often used for educational purposes.
For example, investors can create several different positions simultaneously to compare the performance and payoff characteristics between multiple strategies. A textbook may state that writing acovered call is synthetically the same as writing a naked put, but in practice there are subtle differences. With a paper trading account, an investor can set up a bull credit spread and a bull debit spreadsimultaneously and watch how the payoff for each position changes as the market moves.
Other advanced strategies include leverage, short-selling, forex and derivatives trading. Successful execution and profit generation from these strategies usually require high levels of technical knowledge. Investors can test these strategies with paper trading to avoid taking on excessive risk due to inexperience.
Various companies and online trading simulation tools offer paper trading services, some free, others with charges, that allow investors to try out various strategies (some stock brokerages allow 14-day ‘demo accounts’), or paper trading can be carried out simply by noting down fees and recording the value of investments over time.
The imaginary money of paper trading is sometimes also called "paper money," "virtual money," and "Monopoly money."