Algorithmic trading applies computer software to financial markets to provide a more systematic approach to active trading. Here's why people get $300k/year to build them.
Before answering this question, one must first understand the definition of an algorithm. An algorithm is a set of step-by-step rules designed to complete or solve a problem.
In financial market trading, algorithmic trading is a process for executing orders by utilizing automated and pre-programmed trading instructions to account for variables such as price, timing, and volume.
In other words, a trading algorithm has a formula that helps decide when to make a trade based on specific conditions.
It's important to understand that even though algorithmic trading has statistically outperformed traditional day trading, it doesn't mean that it's a solution to get-rich-quick.
That said, algorithms can help traders immensely.
A major advantage of automated trading is the elimination of emotional and psychological influences determining trading decisions in favor of a cold, logical approach to the market.
Humans are notoriously bad at short-term trading because of human impulses.
Algorithms, on the other hand, can be viewed as a black-and-white set of instructions that lead to a clear-cut, "yes" or "no" when trading.
Another advantage is simply their speed. Our algorithm can check over 10,000 tickers within a set interval, and make an unbiased, instantaneous, logical trade based on that information.
Furthermore, algorithms can be used to search for patterns in historical data when developing new models. This helps traders because their strategies can now be validated on historical data.
Algorithmic trading is largely dominated by large Wall Street banks and hedge funds with quantitative researchers, engineers, and data scientists. So, you may be wondering, "How do I trade with these algorithms, and is it even possible to find one I can trust?"
At ScaleTrade we are unlocking algorithmic trading for the everyday trader by allowing people to trade with the ScaleTrade algorithm. And we hope to earn your trust by transparently sharing our backtests and overall live-trading performance, as shown in the Key Statistics section of our documentation.
One of the benefits that an algorithm provides is its enhanced ability to analyze complex patterns in the market and consistently make calculated decisions.
Therefore, as a human receiving recommendations from an algorithm, it's important to follow the rules and not break conventions based on human impulses.
In other words, as long as it has solid backtested results... don't doubt the algorithm.
Algorithms have no emotional or psychological component. It is laser-focused on maximizing returns and reducing risk in a specific interval through complex calculations.
So, in order to be successful when trading with an algorithm, you must understand that following the algorithm completely, every trade, regardless of human impulses will likely lead to more long-term gains and success. This is the golden rule.
Algorithmic trading brings together computer software and financial markets to provide a more rigid, systematic approach to active trading than methods based on trader intuition, instinct, or even indicators.
It is for this reason that it's so heavily utilized by the big guys on Wall Street. Banks are willing to pay quantitative developers $300k/year to work on just one part of a trading algorithm because trading algorithms work.
There are plenty of benefits for everyday traders as well. But, it's hard to find good algorithms that are available to the public.
When you do find one, just remember to follow the Golden Rule mentioned above.
And, make sure the algorithms you use display their backtest results, just like we do at ScaleTrade