People are relying much more on computers and technology than ever before, and investors are no exception. Thanks to algorithmic trading software, investors are taking advantage of optimal market conditions to come out considerably richer.
What Is Algorithmic Trading?
Algorithmic trading uses computer codes and chart analysis to enter and exit trades as per the parameters such as price movements or volatility levels. Once the current market condition matches any potential criteria, trading algorithms will execute, buy, or sell on your behalf.
This will save time on scanning the markets. Algorithmic trading aims to help investors execute specific financial strategies as soon as possible to bring in higher profits. Advanced technical analysis and charting tools make algorithmic trading easy for traders.
Why Use Algorithmic Trading?
- Remove Human Errors
Traders can trade without letting emotions get in the way of realizing profits or cutting losses.
- Capitalize On Rare Or Unusual Events
Now create an algorithm to act on infrequent events such as Dow closing 500 below its 20-day moving average.
- Supplement Your Existing Strategy
You can use algorithms to fine-tune risk management in your trading strategy while implementing stops and limits on your behalf.
You can backtest and refine algorithms against historical data to establish the best combination of parameters to buy or sell trades.
- Increase Opportunities
You can choose or create an algorithm as per your strategy and maximize your exposure to opportunities in the underlying market.
How Automated Algo Trading Works – Requirements
Before actually understanding how algo trading works, let’s understand what is required for algo trading.
- Trading Strategy
- The entire algo trading works on the trading strategy. The trader has to define which technical indicators he will need to use for quantitative and technical analysis.
- Based on your strategy, an algorithm or a set of instructions must be performed in a programming language, which is quite challenging as many traders don’t have a technical background to create an algorithm.
- You can outsource or use specific algorithmic trading software to create an algorithm based on your instruction in such cases.
- A Reliable Trading Software
- This is an essential part of the algo trading process. The algorithmic trading system must offer a means of creating an algorithm and offer very high speed and accuracy, low latency, and data feed.
- You will require a robust infrastructure for algo trading, including data servers, computers, and a high-speed internet connection.
How Algo Trading Software Works
Here is the step-by-step guide on how algorithmic trading software works:
- Strategy Formulation
- The first step is to formulate a winning strategy. It is similar to traditional trading methods since they are based on a successful strategy and its implementation. The trader can choose from various trading strategies such as trend-following, mean reversal, arbitrage, statistical arbitrage, or market-making.
- The strategy has to cover entry and exit positions and risk management.
- Automation of Algorithm
- Once the strategy is formed, the trader can create an algorithm and get it automated using reliable algorithmic trading software.
- Once you have set up everything, the hard part is over. Now you only need to respond to the signals generated by the algorithm and execute the orders accordingly.
- For example, you might use algorithmic trading to execute orders quickly when a particular stock reaches or falls below a specific price. The software will help you in dictating how many shares to buy or sell based on such conditions.
- Once the program is in place, the trader can sit back and relax, knowing that trades will automatically occur once those conditions are met.
How to Choose the Right Software
It is recommended to choose reliable algorithmic trading software that offers an optimization suite and custom coding language to make it easy to create, backtest, and refine your own algorithms from scratch. This will simply allow your algorithms to operate according to your exact specification and enable you to customize the software as per your needs.
Choose a platform that also offers web APIs to get market data and historical prices, along with a more significant amount of customization.
With modern technology and innovative automated trading software, algo trading is quite a sophisticated process with a broad scope of earning and profits. A trader doesn’t have to stay stuck to his screen to wait for the trading opportunity. Once the opportunity arises, the algorithm detects it automatically and sends a signal to the trader. This saves his time and lets him concentrate only on the essential strategy-formation part.
It is quite an efficient way of trading as it is not affected by human-errors, and it overcomes human drawbacks of speed and accuracy. However, algorithmic trading is linked to significant market volatility. Investors should take care of specific points while investing in the trading software.