Trading Analysis

ALGORITHMIC TRADE INVESTMENTS IN FINANCIAL MARKETS

algorithmic trade

Currently, among investors algorithmic trade in stock markets is gaining popularity and more and more often there are references to so-called “trading robots”. According to various estimates, with the help of trading robots from 30% to 70% of the volume of trading on Wall Street are now carried out.

In 2014-2015, the British Financial Conduct Authority (FCA) reported that two thirds of sales of financial products were not accompanied by consultations due to a lack of specialists. Every third person who applied for financial services later regretted financial transactions. The British regulator concluded that technological solutions could become inexpensive helpers for clients of financial markets.

In 2017, more than two hundred firms worldwide are already working with the algorithmic adviser for the financial market. They operate with $ 300 billion assets. According to forecasts, by 2020 their number will increase by 3.7 times, and the total assets volume will come up to more than $ 8 trillion.
The leader in software investment products market for the last year was the Betterment project, which managed assets of $ 7 billion. The top three also include Vanguard Personal Advisor with of $ 4 billion.
The confirmation that robots really have a tangible impact on the trading course was the introduction on many stock exchanges of an additional commission for a large number of unfulfilled applications. The fact is that the exposure and removal of a huge number of applications is a characteristic feature of automated trading.

Investors have to “work out” more and more insignificant market fluctuations, to use in their trade ever shorter time intervals (including intraday ones), i.е. to pass from passive investment “bought and hold” to active trading. Modern traders have long realized that only the use of a systematic approach to trading is the basis for obtaining a stable positive financial result in the stock market. System trading (trading based on the system / algorithm) involves the implementation of operations in accordance with a set of rules for entering and exiting the position.

An example of a simple trading system can serve the following example: opening a position when crossing the price of a moving average or going beyond the trading range. If the rules of the trading system are clearly formulated, then in 90% of cases such a system can be automated. And with the development of modern exchange technologies, what previously only large banks and investment companies could use becomes available to a wider range of investors. Therefore, an increasing number of traders prefer to automate their work with the help of trading robots.
What is the effectiveness of trading robots?

The yield of some high-frequency robots can reach phenomenal results up to 4500% of the yield within a month of active trading.
Of course, such astronomical indices of robots` profitability drive mad other traders, but there are other (not so rosy) stories about trade robots, so to say, the “dark side” of automated trading.

For example, on February 3, 2010, an error in the algorithm of the robot company Infinium Capital Management, which traded oil futures for LightSweet oil on the NYMEX exchange, resulted in an instant issuance of a huge number of applications for purchase (6767 applications in about 3 seconds), because of which the futures price grew by 1.3% right before the close of the stock exchange. Thus, in just a few seconds the robot generated $ 1 million losses for the company.

In August 2012, one of the largest American brokerage companies Knight Capital Group in a second was on the verge of bankruptcy due to a malfunction of its exchange robot in the trading algorithm, which in less than an hour destroyed most of its capital, “losing” $ 440 million. On August 1, 2012, the robot sent erroneous applications to the NYSE during 45 minutes. This not only brought losses to the brokerage company, but also triggered price jumps in shares of 148 companies.

As follows from all the above, algorithmic trading is now firmly established in the financial markets and stock exchanges, and continues to develop rapidly.

So what are “trading robots”?

In fact, any “trading robot” is a special program in which a certain algorithm of stock market transactions is implemented. The trading algorithm itself can be either very simple (for example, it can be oriented at the price breakdown of a local maximum or a minimum on one paper), or very sophisticated. There are trading robots that can simultaneously track several hundred financial instruments, and use for analysis several dozens of indicators of technical analysis. Algorithmic trading systems provide traders with new opportunities for trading, giving them a number of advantages over their counterparts who opt for trading manually.

Trading robots advantages:

1) Speed.
A trading robot can simultaneously track the quotes of several tens or even hundreds of securities or currency pairs, instantly produce complex calculations, make decisions and instantly make transactions (put / move / withdraw orders). With the use of modern technologies, the time for all these operations can be measured in milliseconds, and, therefore, a trading robot can make up to several hundred trades per second.
As a rule, even experienced investors prefer to concentrate their efforts on one kind of securities, and they track the dynamics of quotations of only a small number of securities or currencies (about 5-15 instruments), while the trading robot is quite capable of monitoring the dynamics of all financial instruments, traded on the stock exchange.

2) Accuracy.
The robot is not mistaken when analyzing data and submitting applications: a high-frequency robot (unlike a trader) will never confuse the buttons “buy” and “sell”, it does not go wrong with the price and quantity when entering an application, etc.

3) Lack of fatigue.
Trading may last a whole day, more than 9 hours. To spend all this time in front of the monitor, the trader simply cannot. When he/she is away, he/she can miss an important trading signal. The trading robot does not get tired, it is ready to work 24 hours a day and all this time continuously monitor the situation on the market. This does not mean that the robot does not require systematic monitoring by the investor and the periodic optimization of the trading algorithm, but it objectively makes it possible to significantly reduce the time spent on the immediate implementation of the strategy and gives the investor the opportunity to “tear himself away from the monitor.”

4) Lack of emotion.
In certain situations, due to its emotional nature, it is extremely difficult for a person to follow his/her own trading strategy (for example, to close a position with a significant loss), while a mechanical trading system is not subject to emotions, the program will adhere to the algorithm embedded in it. The lack of an emotional component in algorithmic trading is, perhaps, one of the most serious “advantages” of high-impact trading robots. According to studies conducted at different times in different markets, it is the human factor that is most often the cause of the losses for the investor.

It should be noted that along with all the above advantages, any trading robots may happen to have some serious drawbacks.

Trading robots disadvantages:

1) The financial costs of buying / creating / writing under the individual trader’s strategy.
Ready “trading robots”, as a rule, implement the simplest algorithms based on one or two indicators, at the same time they are quite inexpensive, starting from $ 1000. Writing a “trading robot” for an individual order requires much more time, provides for the technical task from the investor and can cost from $ 30 000 and higher.

2) Risk of computer failures.
In the event of a computer failure, the trading robot will systematically repeat the same error, making more and more unprofitable transactions (in this case, a high-frequency trading robot in one trading session can almost “zero” the investor’s account).

3) Lack of response to non-standard situations.
Typically, the robot is focused on working in any specific, fairly standard market conditions. Unexpected sharp reversals of the trend, increased volatility, correlation / settlement in price movements can “disorient” the program, and it will start making unprofitable transactions.

4) Lack of emotions, oddly enough, is both a “pro” and “cons” of the robot. For example, a robot, accurately adhering to the programmed strategy, is able to “lower” all your capital in one trading session.

Summarizing all the above described, trading robots are new opportunities in the investment sphere. Passed some time, algorithmic robots will implement more and more technical operations, leaving traders time for analytical work. However, it is necessary to understand that trading robots are only a tool for a trader.

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