Much has been said about the rise in algorithmic trading, also known as “black box systems,” in the forex industry. Before we delve into the pros and cons of it all or how it could affect retail trading, here’s a quick lesson on what algo trading is all about.
What is algorithmic trading?
Simply put, an algorithmic trading system is a programmed set of instructions that generate trade signals that can be executed right on the trading platform. Most algo systems or “black boxes” also include automatic position sizing and trade exit commands.
Imagine running an algorithmic trading system and just watching the profits come and go on your account. If you think that’s the stuff sci-fi movies are made of, then you should know that algorithmic trading has been present in the financial markets for nearly a couple of decades already.
Why is algorithmic forex trading on the rise?
As Robopip always boasts, machines are capable of doing complex calculations in microseconds while humans usually take hours or even days to finish such tasks. No wonder traders who have the ability or resources to translate their trading strategies into computer code decided to do so!
The introduction of electronic and online trading has led to the development of automated trading systems and eventually the growth in popularity of algo trading throughout the years. As traders and financial firms try to improve the profitability of their systems, they employed more sophisticated tools and customized their algorithms.
This sounds too good to be true. Are there any drawbacks to algo trading?
While algorithmic trading does have the potential to improve market liquidity with high-frequency trading, it could also lead to spikes in volatility. After all, the lightning-fast execution of algo trades and the correlation with similar algorithms could result to sharper price moves.
On the other hand, with most algorithmic trading systems also aiming for optimal trade execution at the best possible price, this might also lead to lower volatility during times of market stress. Industry analysts noted that this might make it more challenging for shorter-term traders to make profits.