Backtesting and forward testing (paper trading) are both essential for evaluating crypto trading strategies, but they serve different purposes. Backtesting involves applying a trading strategy to historical market data to see how it would have performed in the past. This helps traders identify potential strengths and weaknesses before risking real capital. However, backtesting has limitations, it cannot account for real-time market conditions, liquidity issues, or sudden black swan events like exchange hacks or regulatory shocks.

Forward testing, or paper trading, simulates live market conditions in real time without actual money at stake. Traders execute their strategies using current price action, allowing them to observe how the strategy performs under real-world conditions, including slippage, order execution delays, and emotional decision-making. Unlike backtesting, forward testing captures the impact of unpredictable market behaviour, news events, and shifting liquidity.

While backtesting provides a theoretical foundation, forward testing validates whether a strategy works in practice. The best approach combines both: backtesting refines the strategy using historical data, while forward testing ensures its robustness before deploying real capital. Ignoring either step increases the risk of losses when trading volatile cryptocurrencies.