Being as complex a field as it is, trading always requires participants to think outside the box and come up with the best strategies for success. While several strategies have proven to be successful there, one that is currently garnering a lot of attention is automated trading.

 

Also referred to as algorithmic trading, this strategy is proving to be quite popular, and below is a look into why that is. As you proceed, let’s look at everything from how it works, how it can benefit you, and a few of the risks to look out for.

 

Contents:

- Defining the strategy

- How it works

- Why you should use it

- The speedy rate of executing orders

- The lack of human interference

- The testing phase

- The risk management factors

- What to look out for

- Final thoughts

 

Defining the strategy

From the onset, it’s clear to understand that the nature of the strategy is that automation is a key component of it. Said trading automation is because it is backed by software that allows for the execution of orders rapidly. Usually, programs investors use require them to enter a list of instructions that the software or algorithm is to follow. These instructions are usually based on the following components:

- Volume

- Time

- Price

 

The nature of this tactic is that it focuses on increasing the chances of a profit by finding as many trading opportunities that fit the instructions and taking advantage of them. Though individual traders will use it, the strategy is mostly utilized by mutual funds and financial institutions as this is a way for them to partake without wasting time.

 

Though the term “automated trading” describes the general strategy, there are several tactics that are perfect for automation and often are. These include the likes of the following:

- Momentum and trend

- Arbitrage

- Weighted average

- Mean reversion

 

How it works

Though the above header shows a somewhat summarized version of the way the strategy works, this one delves into the details as a whole. For starters, it’s important to remember the base instructions entered into systems, which are listed above.

 

There are, however, a lot more factors that affect the market, and all of them are often featured as instructions that traders enter. Below is a list of other factors that translate into information traders enter into the automated system:

- Precise price

- Annual high or low

- Moving average crossover

- Stop loss

 

When traders feed the instructions to the system, it automatically works to ensure the best outcomes. This is done by executing as many orders as possible at a high speed so long as they match the instructions. The fact that it’s done with fairly little human aid means that the matches are often backed by data, which increases the chances of larger profit margins.

 

Why you should use it

Though the above would usually be enough to shed light on why the tactic could be of great use to you, it may not be convincing enough for others. If that’s the case and you’re searching for something more concrete, look no further than the reasons below: 

 

The speedy rate of executing orders

The mechanical nature of this strategy means that so long as the system is functional, the number of orders executed can be immense. Simultaneously, multiple accounts can be both used and managed with great efficiency. This shows that the chances of success are increased with the aid of a diversified portfolio.

 

The lack of human interference

When we as humans do anything, we are more than likely to be influenced by how we feel as opposed to relying on the data. This is especially problematic in an often fickle market. Automated trading systems are such that they operate based purely on the instructions entered and the data that matches it. In short, emotion is taken out of it completely.

 

The testing phase

Oftentimes, trading can be a guessing game that doesn’t end well if you just gamble on the first opportunity you see. This isn’t an issue as most automated systems have a backtesting feature that allows them to test a strategy on past data. This can give them an accurate perspective on how certain methods will work in similar markets, which in turn gives more time for proper decision-making.

 

The risk management factors

The above reasons all add to help with risk avoidance, but nothing helps with this more than the ability to diversify portfolios. With several automated strategies used on multiple investments across different accounts, the risk is spread and thus reduced.

 

What to look out for

Despite the above benefits being as enticing as they are, you should always be aware of when adopting something of this nature. For starters, you need some knowledge of basic coding just to be safe. From this knowledge, you’ll also realize that some human input will be needed to ensure that the programs do what they’re supposed to. It is also crucial to look at all advantages and disadvantages of automated trading systems. Choose the ones that fit best your needs and requirements.

 

In addition to this, not all trading systems are created equally. As such, you shouldn’t expect perfect functionality from a substandard tool. This is particularly present when it comes to backtesting, where results can end up being misleading.

 

Final thoughts

Among the numerous trading strategies out there, it's fair to see that those of the automated variety or algorithms can be thought of as the ones of the future, changing market. This will continue to be the case when things such as artificial intelligence and machine learning become the norm.

 

That said, as with any risk worth taking, some caution must be taken despite the potential gains and this means analyzing as many angles as possible. The benefits are worth considering, though and anyone with even the most basic knowledge at least looks into it. If this is your chosen path, good luck in your endeavors.

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