What is Automated Trading?

UTC by Adedamola Bada · 6 min read
What is Automated Trading?
Photo: Depositphotos

In this guide, we look at the pros and cons of automated trading while brushing on the benefits, risks involved, technical requirements, trading strategies, required trading skills and questions that need to be answered on the subject.

Ever imagined the prospect of you sleeping and having a robot do all money-making tasks and thoughts for you? An autonomous trading system that guarantees trade profits while requiring little or no input from you as a trader? Well, don’t look too far as automated trading offers just that.

What is Automated Trading?

Automated or Algorithmic trading is a method of trading that employs the use of pseudocode to execute trades and create profits quicker than any human.

It is the dream of every person who deals in the stock market, to have an algorithm that makes money off trading without him or her being present. Simply put, a 24-hour money-making algorithm.

These algorithms or pseudo-codes are written with regards to examined stock prices, the performance of a particular product in the market, current value, etc., amongst many other factors.

For instance, a trader could simply write code to buy a particular amount of shares of a particular stock once it goes past a particular day moving average and ensure that it sells once it falls below the original day moving average.

As soon as the code is written, the system would observe the securities’ parameters and buy and sell in accordance with the given instructions.

Pros of Automated Trading

Automated trading systems are easy to set up and use, this means that newbie traders can use the systems without fear of running into unsolicited loss of invested funds. After configuration, traders will only have to launch the software and let the system take control of placing trade orders.

Automated trading also eliminates emotions during trading since the trade can only be placed when certain configured trading requirements are met. This helps to keep trading discipline by training the users not to go beyond their trading limits in an attempt to get fast profits.

Also, automated trading features backtesting by employing trading rules previous market data to predict the feasibility of trades.

Cons of Automated Trading

Making successful trade orders depends on several market factors that are usually time-bound. Most trade decisions are made while considering the current market and trends since the automated trading system works with pre-configured rules, traders won’t have the benefit of making instant market decisions.

Also, automated systems need to be closely examined as they work with technology which involves internet connection. Internet access may suddenly get lost without the knowledge of a user and in such a case, traders would think that they have placed orders only to find out that such orders were not active due to loss of internet connection. Also, owing to the fact that the pseudocode is written to maximize profits, trading is done at the best cost.

Automated Trading Strategies

Trend-Following Strategy

This is the commonly used, simple and basic auto trading method yet. The pseudocode is written with regard to the advantageous movement of the stocks in the market. They generally do not involve assumptions or predictions of any kind.

Arbitrage Opportunities Strategy

This involves making use of the pseudocode to find and purchase a stock, priced low on one market and then reselling said stock on another market at a higher price, making a profit without incurring additional expenses.

Mean Reversion Strategy

This is a kind of trading that believes that the high and low points of any product in the stock market is an interim phase and will eventually return to its mean price. Using pseudocode to determine said mean price, trades can be made once it goes below or above the established mean price.

Time-weighted Average Price Strategy

This mainly instructs the computer to reduce a huge order of stocks into specifically defined smaller orders and send them into the market at targeted points in time (begin and endpoints).

Volume-weighted Average Price Strategy

This is a method that commands the system to break down a voluminous order of stocks into detailed and defined smaller orders and forward them into the market at targeted points near to the VWAP.

Technical Requirements for Automated Trading

The pseudocode is written in such a manner that the system sends out trade orders in portions until the order is completely sent. The portions are divided with respect to the quantity being traded in the market once the price of stocks reaches a specific level.

Applying the pseudocode is the last and easiest process for automated trading. This can be done by any layman. The real challenge is contained in converting the trade plan into the systemized procedure that is allowed access to accounts to purchase and sell-off.

Necessary Skills required for Automated Trading

To be great at automated trading, there is a certain amount of skills one must possess,

  • One must have a basic knowledge of trading. A trader must be able to identify if a trade is regulated, to understand the inherent risks involved in trades, know stop orders, limit orders, and margin requirements. The more expertise one gathers about trading, the simpler automated trading will be in general.
  • The investor must possess a certain dexterity at mathematics. Understanding metrics, statistics, and financial calculations are key to success at trading.
  • The analysis involved in trading strategies would require the backing of software used in data editing, so one must have the basic knowledge of such software.
  •  One has to own the ability to run their own style of trading to avoid money-losing mistakes. Every trader must be able to hone a particular trading style to get maximum profits off it. The trading style must be well-grounded, with the trader being well versed in the art of creating, testing, and implementing the automated trading strategies. Having a process is key to making profits on automated trading.
  • The ability to program. Various trading sites require different requirements for a trader to implement pseudocode based trading strategies on them. While some may only demand basic graphic programming skills, others expect writing codes in specific programming languages. The trader must know his ability and choose trading sites accordingly.

Risks Involved in Automated Trading

As enticing as it may sound, the automated trading system doesn’t come without some risks.

It takes out the element of hunches. When dealing with stocks in the market, it is safer and expected to follow trends to expect profits, however, with the human effect, a trader could go against the current trend and reap numerous profits while the system code would go with the trend and result in some form of loss or simply delay in investing in a particular product that experiences a fall in value soon after, saving money in the process.

Also, with system codes, investors always run the risk of computer failure, connection errors, pseudo-codes with bugs, lack of power supply, and time lags between placing orders and executing commands. Losing a lot of money in the process.