Algorithmic trading can be described as a kind of trading that makes utilization of a software program to make trades and close them. Also called algo-trading or black-box trading also known as automated trading. This kind of trade is a way to automatize trading by using the use of a set of rules. Theoretically, it is possible to produce profits with a frequency and speed that would be impossible for human traders.
How Algorithmic Trading Works
The computer software adheres to the set of rules that are based upon price, timing quantities, or any mathematical models to determine when to close and open the trade. Apart from providing opportunities to earn profit for traders back-box trading also makes markets more fluid. Additionally, it makes trading organized by eliminating the effect that emotions or human psychology influence trading decisions.
In a real-world setting you can apply the rule of purchasing 100 shares when the 100-day moving average is close to the 300-day moving average. It is also possible to offer shares for sale of the exact stock when its 100-day moving mean is below the 300-day moving mean. With investment platforms online the computer software will track the price of shares and then automatically make orders to buy or sell when the above requirements are fulfilled. It is no longer necessary to keep track of live prices or graphs in order to place an order since the entire process is automated.
Advantages Algorithmic Trading The Benefits of Algorithmic Trading
- Trades are executed at the highest possible price. The trades are executed at the best price possible
- Trades are instantaneous, and properly timed to prevent any significant price fluctuations It is possible to trade instantly and without delay, avoiding price fluctuations
- Trade order processing is fast and accurate The trade order is placed instantly and accurately
- Reduced transaction cots
- Reduced chance of making mistakes manually when making trades Trades
- Automated checks that are simultaneous that are based on various marketplace conditions Simultaneous automated checks that are based on various market conditions
- Human errors are reduced that traders make in relation to emotional and psychological aspects Psychological and emotional factors
- Potential for backtesting using historic and real-time data in order to determine the effectiveness of an investment strategy
The drawbacks to Algorithmic Trading Drawbacks of Algorithmic Trading
Although there are numerous advantages to automatizing the trading process the algorithmic method of trading is not without its own limitations. The main drawback to using this technique is the risk of missing trading opportunities. Since the computer program is based on the rules set by the program that are not always followed, it could miss profitable opportunities if the conditions aren’t fulfilled.
The computer program can’t detect any opportunities for trading that it wasn’t programmed to identify. This limitation can be overcome by expanding your number of indicator. While you can’t add every condition you wish to meet This can help to reduce the software’s limitations.