Home Brokerage Social Trading: a Key Tool in the Democratisation of Finance

Social Trading: a Key Tool in the Democratisation of Finance

by internationalbanker

Thanks to key advances being made within the realm of fintech (financial technology), the term democratisation of finance has become perhaps the most important of all from a global-development perspective in recent years. But truth be told, the actual democratisation process can mean different things to different people. For some, it refers to the provision of basic financial services, such as new bank accounts, to previously unbanked and underbanked populations. For others, it means gaining access to more sophisticated financial services, such as trading and investing, that would have been previously unattainable.

But thanks to social trading, such services are now within easy reach of people all around the world, irrespective of their financial backgrounds or experiences with financial markets. As the term suggests, social trading combines trading with a social-media dimension. Through the power of online communities, it enables users to share information with community members about financial markets and trading. This allows other users to observe and replicate trades being made by the experts, thus enabling novices to potentially earn the same kind of returns that are being drawn by experienced traders.

As such, social trading offers less-experienced investors the opportunity to leverage the expertise of more knowledgeable and successful peers. Rather than providing an investment advisory or portfolio-management service, it represents a new and arguably safer way for new investors to obtain access to a multitude of financial markets and products and gain experience and understanding. In practice, investors typically do this by participating in copy trading, which allows investors to simply replicate the portfolios of top-performing traders who are already operating on the social trading platform. Indeed, copy trading can ultimately allow those without much experience—or with little time to spare—to leave all the tough decisions to the more successful “copied” traders. And given that it allows new traders to simply piggyback off the success of more skilled traders, copy trading has become hugely popular in recent years.

As for the most popular social trading platforms, eToro is likely the one with which novices are most familiar. By the end of 2019, the company had surpassed 12 million users located in more than 100 territories around the world. And by May 2020, that number had reached 13 million. eToro provides rookie investors with the opportunity to copy the trading strategies of leading traders on its platform.

But it also offers much more than that. “For those looking to improve their trading, eToro offers so much more than just a copy trading platform,” the company states on its homepage. “You’ll be joining a leading collaborative community of traders and investors—a place to connect, share, and learn. View millions of other traders’ portfolios, stats, risk scores, and more. Chat with them, discuss strategies and benefit from their knowledge.” eToro’s news feed allows users to monitor their preferred traders, while users also have access to a free demo account through which they can try all of the features in a safe, simulated environment.

And more recently, eToro seriously beefed up its cryptocurrency-trading capabilities. In particular, customers in the United States have access to trade some of the biggest cryptos on the market, including bitcoin, ethereum and ripple. That said, not all countries have access to this feature, and the financial markets available to users heavily depend on where they are located.

But eToro is not the only social trading network available. ZuluTrade is a similarly popular platform, particularly for trading forex (foreign exchange) and binary-option contracts. It also provides a comprehensive copy-trading facility. Darwinex is another highly rated social trading network, although it tends to focus more on opportunities to invest in various traders’ strategies “as if they were their own” asset classes and less on social components. And AvaTrade offers strong copy-trading functionality across several asset classes, including stocks and stock indices, bonds, commodities, cryptocurrencies and ETFs (exchange-traded funds).

Social trading can offer new investors a handful of key benefits. First, by allowing them to piggyback off experts’ trading strategies, it provides newcomers with one of the easiest and quickest ways to maximise returns. And by being able to discuss various aspects of financial markets with the community, beginners can gain substantial insight into and understanding of the trading process. It is also cost-effective—unlike traditional investment management, most social trading platforms do not require a minimum-investment threshold to get started. With eToro, for example, opening an account is free, no management fees are taken even when copying other traders, and stock investing charges 0-percent commission fees. And those expert traders who choose to share their trades receive a percentage commission of the earnings every time one of their trades is copied, which not only provides them with additional income but also motivates them to share their expertise with others in the community.

During COVID-19, moreover, social trading can be crucially important. Whether it’s stocks, commodities or cryptocurrencies, there is much evidence to show that online trading through apps such as Robinhood has exploded during the pandemic. As such, it means that there are a lot of newcomers out there searching for ways to gain exposure to new investment opportunities. Social trading can offer the ideal home for such beginners. They can learn from the community, practice through demo accounts and copy more experienced traders as they begin their journeys in the world of financial markets. “Coronavirus induced market volatility has been a focus for media globally and has brought the topic of investing increasingly onto people’s radars,” Yoni Assia, chief executive officer and co-founder of eToro, confirmed in May. “We have seen a large increase in trading volumes on eToro since the start of 2020 from both new and existing users.”

There are a handful of drawbacks to this form of trading, however. For one, copy trading does leave the fate of an investor’s performance in the hands of someone else. Whilst it is likely that the copied trader will have a sufficiently impressive track record, past performance is no guarantee that similar success will be achievable going forward. And whilst a novice may well achieve success through copy trading, it is unlikely to be a preferred strategy to learn about the intricacies of trading and financial markets. The community environment and the opportunities to communicate with experts certainly negate that problem to some degree, but social trading is unlikely to be a perfect substitute for learning and trading on one’s own.

As such, it should be emphasised that there remains no substitute for learning about investing and financial markets for oneself before deciding to participate in social trading or copy trading. “Making sure users have the right financial education to make decisions is a priority,” according to Mickael Tabart, partner at KPMG Luxembourg. “Retail investors should at least be familiar with the ground rules, like diversification of portfolio, before starting to use the service.”

And it is always recommended that investors conduct their own research on the specific markets to which they may choose to gain exposure, even if that exposure is ultimately achieved by copying other traders. In the end, this will be beneficial in choosing the most appropriate traders to copy.

 

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