In recent years, the forex industry has seen a rise in algorithmic trading. No longer just accessible to institutional traders, algorithmic trading has become popular with retail traders too. Traders do not need to have any programming skills to develop an algorithm as there are now programs and services available that provide the code for a strategy according to a trader’s input.
This brings us to a common dilemma faced by forex traders and whether they should adopt an algorithmic or manual trading strategy to produce long-term positive outcomes. Multi-regulated broker, HYCM takes a look at their benefits and risks and assesses whether algorithmic or manual trading is preferable.
What Is Algorithmic Trading ?
Algorithmic trading is a trading system which utilises advanced mathematical models to make financial decisions. The process involves using computers that are programmed to follow a predefined set of instructions for placing a trade to produce income at a speed and frequency that isn’t attainable by a human trader.
As machines are capable of carrying out complex calculations in split seconds, it is clear to see why the growth in online trading has been accompanied by the development of automated trading systems and algorithmic trading. As traders and brokerages seek to increase the profitability of their systems, they have adopted more sophisticated tools and customised their algorithms in order to maximise their earnings potential. Popular algorithmic strategies include Trend Following, Mean Reversion, News Based, Market Sentiment, Arbitrage and High Frequency Trading.
Benefits and Risks
The use of algorithms has garnered much interest in the forex industry. However, it is important that traders should take into consideration several factors before using them in order to decide what they are setting out to achieve and to establish an awareness of the benefits and risks involved with their use.
While a well-programmed algorithm has the benefit of running itself, a level of human oversight is recommended. It is thus important for a trader to choose a timeframe and trade frequency that they are able to monitor. If a trader is holding down a day job and their algorithm is programmed to make hundreds of trades daily on a one-minute chart while they are away, this is not ideal. In this case, it would be better to choose a slightly longer time frame and less trade frequency in order to keep a check on it.
It is important for a trader to be aware that early success rates in terms of the algorithm’s profitability does not mean it will continue producing those returns. A trader will occasionally need to step in and alter the trading algorithm if the results show that it is not functioning optimally anymore.
Traders should also be aware that not every market is suited to algorithmic trading. It is advisable to opt for stocks, ETFs, futures or forex pairs with sufficient liquidity in order to be able to handle the orders that the algorithm will be generating. It is also essential that a trader does not trade with real capital until the algorithm has been tested by letting it run on historical price data to show how it performs over thousands of trades. If historical testing proves to be profitable, the trader should proceed to test the algorithm in live conditions on a demo account to ensure it works in the real market.
Regardless of risks involved, algorithms present a potentially rewarding solution to traders as they offer the benefit of trading without emotion, thereby minimising the possibility of mistakes by human traders. They present a reduced risk of manual errors when placing trades and they are always executed at the best possible prices while being able to effectively carry out simultaneous, automated checks on multiple market conditions.
Should You Choose Algorithmic Or Manual Trading ?
HYCM stresses that algorithmic trading is by no means a way to get rich overnight. The fact is, utilising trading algorithms can be as much hard work as trading manually. Those who choose to use an algorithm should be aware of how time, financial and market constraints may affect their strategy and plan accordingly. Therefore, the decision on whether to adopt an algorithmic or manual trading strategy is down to the individual to establish in terms of their own capabilities when it comes to making high-pressure trading decisions and to recognise how technology can help overcome any limiting psychological traits.
Substantial trading experience and an in-depth knowledge of the forex markets are big plus points when it comes to developing profitable trading strategies and these should not be sacrificed in favour of algorithmic technology. Nevertheless, even experience is prone to human error and this is the negative side to placing trust solely in a manual trading strategy – that’s where algorithmic trading comes in. It is thus advisable for traders to use them in conjunction with each other in order to increase the possibility of making their trading activities a success.