Paper trading

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."

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Spread trade

In finance, a spread trade is the simultaneous purchase of one security and sale of a related security, called legs, as a unit. Spread trades are usually executed with options or futures contracts as the legs, but other securities are sometimes used. They are executed to yield an overall net position whose value, called the spread, depends on the difference between the prices of the legs. Common spreads are priced and traded as a unit on futures exchanges rather than as individual legs, thus ensuring simultaneous execution and eliminating the execution risk of one leg executing but the other failing.

Spread trades are executed to attempt to profit from the widening or narrowing of the spread, rather than from movement in the prices of the legs directly.

Margin

The volatility of the spread is typically much lower than the volatility of the individual legs, since a change in the market fundamentals of a commodity will tend to affect both legs similarly. The marginrequirement for a futures spread trade is therefore usually less than the sum of the margin requirements for the two individual futures contracts, and sometimes even less than the requirement for one contract.

Types of spread trades

Calendar spreads

Calendar spreads are executed with legs differing only in delivery date. They price the market expectation of supply and demand at one point in time relative to another point.

A common use of the calendar spread is to "roll over" an expiring position into the future. When a futures contract expires, its seller is nominally obligated to physically deliver some quantity of the underlying commodity to the purchaser. In practice, this is almost never done; it is far more convenient for both buyers and sellers to settle the trade financially rather than arrange for physical delivery. This is most commonly done by entering into an offsetting position in the market. For example, someone who has sold a futures contract can effectively cancel the position out by purchasing an identical futures contract, and vice versa.

The contract expiry date is fixed at purchase. If a trader wishes to hold a position in the commodity beyond the expiration date, the contract can be "rolled over" via a spread trade, neutralizing the soon to expire position while simultaneously opening a new position that expires later.

Intercommodity spreads

Intercommodity spreads are formed from two distinct but related commodities, reflecting the economic relationship between them.

Common examples are:

• The crack spread between crude oil and gasoline, reflecting the premium charged to refine oil into gasoline
• The spark spread between natural gas and electricity, for gas-fired power stations

 

Option spreads

Option spreads are formed with different option contracts on the same underlying stock or commodity. There are many different types of named option spreads, each pricing a different abstract aspect of the price of the underlying, leading to complex arbitrage attempts.

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Commodity money

Commodity money is money whose value comes from a commodity out of which it is made. It is objects that have value in themselves as well as for use as money.

Examples of commodities that have been used as mediums of exchange include gold, silver, copper, peppercorns, large stones (such as Rai stones), decorated belts, shells, alcohol, cigarettes, cannabis, candy, barley etc. These items were sometimes used in a metric of perceived value in conjunction to one another, in various commodity valuation or price system economies.

Aspects

Commodity money is to be distinguished from representative money which is a certificate or token which can be exchanged for the underlying commodity, but only as the trade is good for that source and the product. A key feature of commodity money is that the value is directly perceived by the users of this money, who recognize the utility or beauty of the tokens as they would recognize the goods themselves. That is, the effect of holding a token for a barrel of oil must be the same economically as actually having the barrel at hand. This thinking guides the modern commodity markets, although they use a sophisticated range of financial instruments that are more than one-to-one representations of units of a given type of commodity.

Since payment by commodity generally provides a useful good, commodity money is similar to barter, but is distinguishable from it in having a single recognized unit of exchange. (Radford 1945) described the establishment of commodity money in P.O.W camps

People left their surplus clothing, toilet requisites and food there until they were sold at a fixed price in cigarettes. Only sales in cigarettes were accepted - there was no barter  Of food, the shop carried small stocks for convenience; the capital was provided by a loan from the bulk store of Red Cross cigarettes and repaid by a small commission taken on the first transactions. Thus the cigarette attained its fullest currency status, and the market was almost completely unified.

Radford documented the way that this 'cigarette currency' was subject to Gresham's law, inflation, and especially deflation.

In another example, in U.S. prisons, after smoking was banned in about 2003, commodity money has switched in many places to cans or foil pouches of mackerel fish fillets, which have a fairly standard cost and are easy to store. These may be exchanged for many services in prisons where personal possession of currency is prohibited.

Metals

In situations where the commodity is metal, typically gold or silver, a government mint will often coin money by placing a mark on the metal that serves as a guarantee of the weight and purity of the metal. In doing so, the government will often impose a fee which is known as seigniorage.

The role of a mint and of coin differs between commodity money and fiat money. In situations where there is a commodity money, the coin retains its value if it is melted and physically altered, while in a fiat money it does not. Usually in a fiat money the value drops if the coin is converted to metal, but in a few cases the value of metals in fiat moneys have been allowed to rise to values larger than the face value of the coin. In India, for example fiat Rupees disappeared from the market after 2007 when their content of stainless steel became larger than the fiat or face value of the coins. In the U.S., the metal in pennies (mostly zinc since 1982) and the metal in nickels (75% copper, 25% nickel) has a value close to (and at some times exceeding) the fiat face value of the coin.

Functions of commodity money

Although some commodity money (barley), has been used historically in relations of trade and barter (Mesopotamia circa 3000 BC.), it can be inconvenient to use as a medium of exchange or a standard of deferred payment due to transport and storage concerns, and eventual rancidity. Gold or other metals are sometimes used in a price system as a store of perceived value, that does not break down due to environmental deterioration, and can be easily stored (demurrage).

The use of barter like methods using commodity money may date back to at least 100,000 years ago. Trading in red ochre is attested inSwaziland, shell jewellery in the form of strung beads also dates back to this period, and had the basic attributes needed of commodity money.

To organize production and to distribute goods and services among their populations, before market economies existed, people relied on tradition, top-down command, or community cooperation. Relations of reciprocity, and/or redistribution, substituted for market exchange.

The city-states of Sumer developed a trade and market economy based originally on the commodity money of the Shekel which was a certain weight measure of barley, while the Babylonians and their city state neighbors later developed the earliest system of economics using a metric of various commodities, that was fixed in a legal code.

Several centuries after the invention of cuneiform, the use of writing expanded beyond debt/payment certificates and inventory lists to codified amounts of commodity money being used in contract law, such as buying property and paying legal fines

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