Algorithmic or automated trading allows you to execute trades faster and more efficiently based on strategies that are bound by parameters. This reduces human error that normally occurs on manual trading systems. However, these algorithmic trading systems are not risk free either and some traders prefer manual trading and have found success with that discipline. We take a look at the pros and cons of using these trading methods.
What is algorithmic trading?
Algorithmic trading is a derivative of technical analysis; taking trading positions based on pure mathematics and data. Algorithmic trading is part of quantitative finance, the opposite of value investing where trading decisions are made based on fundamentals. Algorithmic trading provides a systematic and software driven approach to trading compared to methods based on trader intuition or instinct. Whereas technical analysis often aids humans to take trading positions, in its purest form in algorithmic trading a trading program follows a set of trading rules and independently executes trades on the market 24/7.
Algorithmic trading can follow several different types of strategies, for example, directional strategies anticipating market moves based on trends or mean reversion or market neutral strategies where the algorithm seeks to make a risk-free profit over arbitration and dislocations over different markets.
What is manual trading?
Manual trading is a trading process that is reliant on human decision-making for buy or sell trades. A trader will often conduct research or enforce a trading strategy prior to manually placing a trade order, this can involve assistance from programs and technology in making their decision.
Manual trading means the trader will have to manage the trade themselves, setting up buy, sell, stop-loss and take profit orders on an exchange. This is all part of the manual trading process.
Benefits of algorithmic trading
With modern technological developments, algorithmic trading has grown exponentially over the years and presents various advantages over manual trading, here is a list of benefits
- Reduces the possibility of emotional and psychological decisions based on human traders.
- Simultaneous automated checks on multiple market conditions.
- Reduces risk of manual errors when placing trades, this avoids any doubt in mistyping buy or sell orders.
- Trading algorithms can be easily backtested using historical data to see if the strategy operates as intended. *
- You are able to trade 24/7 and still carry on with your day-to-day activities, manual trading limits you for the need to eat, sleep and maintain your body.
- The trader gets instant analysis of indicators, charts and volumes.
- Traders will get an instant reaction to price fluctuations and can execute trades as soon as they happen.
- This allows you to work with multiple trading pairs and assets simultaneously.
- Trading algorithms will automatically make trades leaving the machine to do all of the work, this means traders can handle much more manual trades at the same time.
Limitations of algorithmic trading
- There is a dependence on technology where without a fast, reliable and secure system trades could be missed due to having a system that is unreliable or slow to place trades.
- Trading algorithms tend to have limited life spans, or may work only in certain market conditions, and need to be monitored for performance.
- Many trading algorithms require technical knowledge to build
- Removes the intuition feeling of trading, which may be a positive edge for some experienced traders
- If the strategy was chosen incorrectly or there were mistakes in setting up, the algorithm will not stop performing trades, even if they lead to losses.
- Basic trading algorithms cannot perform fundamental analysis and react to the news.
- An algorithm cannot pass a trade, even if it is based on a false signal, for example a false breakout, unless it is a very sophisticated algorithm
Pros of manual trading
Manual trading is the traditional approach to trading and is the most popular, especially amongst beginners. Here is a list of benefits:
- Manual trading allows you to use your intuition and not get impacted with the numeral movement. You cannot program anything to work based on your intuition.
- APIs and trading tools are still compatible with manual trading and can be used for activity monitoring of positions and market, for the trader to focus on decision making.
- Manual trading is an affordable option as there is no need to set up any complex trading strategies or algorithms, a trader can start making trades once their account has been set up and funded.
- Clear visibility over the change of the market situation and quick reaction to any market news.
- The trader has full control over stop-loss and take profit orders.
- Manual trading is easy to get started with and maintain, anyone can use Excel
Limitations of manual trading
- It is very difficult to maintain quality and frequency when trading more than 4-6 currency pairs simultaneously.
- It is impossible to send buy and sell orders for different currency pairs at the same time, which can be a clear disadvantage in fast moving markets and low time frames.
- If the trader is conducting technical analysis and using complex calculations this takes time not only to learn but to execute as well.
- It is impossible to accurately analyse and review several charts simultaneously.
- Trading time is limited due to the dedicated trading time a person has, this will be affected by physical and mental fatigue.
- This then leads to high psychological strain on the trader, which could lead to poor decision making and/or higher chance of losses.
- Manual trades are placed through manual clicks which could lead to price changes before execution.
- Backtesting for manual trading can be difficult or in some cases not viable
- Intuition and emotional trading can have an adverse effect leading to loss of profits. This could lead to a trader to trade emotionally to recoup losses sustained initially and fall further down in the red.
Which is better: manual or algorithmic trading?
There are many benefits to both manual and algorithmic trading. With manual trading the trader has more feeling and intuition, which many successful traders have benefited from historically. On the other side you have the effectiveness and efficiency of algorithmic emotionless trading, where you can capitalise on market movement and price action to trade without having to invest the time into manual trading. However, these both are not without their limitations.
By taking a hybrid approach to get the best of both worlds could be an effective strategy. This is because a trader can conduct manual trades to react to market news and experienced traders can use intuition, whilst still using a trading algorithm to ensure their activity on multiple markets when they are not physically available to make them.
Whatever your preference is in trading, it is important to find a platform that suits you which is fast, reliable and secure, for you to have trust in your trade decisions. This is why using an algorithmic trading protocol like Trading Strategy is beneficial, you are able to leverage the tools and automation within Trading Strategy to reduce the number of problems or limitations you might encounter with traditional approaches.
Developers are able to utilise the trading algorithm development tools to create and backtest strategies for decentralised markets, whilst traders can explore these strategies to invest in to gain the benefits of algorithmic trading without needing the knowledge or resources to set up their own strategies.
About Trading Strategy
Trading Strategy is an algorithmic trading protocol for decentralised markets, enabling automated trading directly on blockchains. Learn more about Trading Strategy in the introduction post.
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