The advent of Fintech has changed a lot in the financial world, including personal finance. It was quick to penetrate into the world of stocks and trading as well. If anything has bloomed in the pandemic era, it is technology and its various use cases in trading. There is now an emerging generation of young traders considering this side-income as a full-time career. One of the technologies that has given them an impetus is algorithmic trading, or algo trading.
Algorithmic trading made its debut in India in 2008, which was when the Securities and Exchange Board of India (SEBI) finally permitted it. Initially, it was restricted to institutional investors and worked through DMA (Direct Market Access). However, thanks to the cost advantage and gradually better execution, the trading community warmed up to it. Exchanges have also played their role by taking steps to increase operational speed and alignment with international markets.
Algo trading is also known as automated trading. It is essentially the implementation of computers and programs for generation and execution of large orders in the market. The speed and frequency of algo trading is impossible for manual trading to match. It would sound amazing to new traders that the strategies involve trading decisions based on pre-set rules programmed into a computer. Basically, you write a code that will further execute trades on your behalf given that certain conditions are met.
The usual pre-set rules are related to timing, price, quantity, or mathematical models. Because of pre-written code and automatic execution, speed is the major driving factor here. The other advantages are automation, elimination of human error, minimal slippages, flexibility, and use of use. Plus, extensive data mining is no longer necessary. Thus, trading systems become more systematic and markets more liquid.
The Risks Vs The Rewards
Worry not, there is good news here. There certainly are risks associated with technology and capital, but the rewards outweigh them.
There are tools such as back-testing, where you can test your strategy and check possible outcomes. You can even test your strategy in real time with no actual trades by running a simulation.
Having said that, you must not try algorithms if you are unsure.
Let us answer some of your most obvious queries about algo trading now.
- What are the most common algorithms used for trading?
APIs (Application Programming Interfaces) are the most common algorithmic applications amongst Indian traders. In this case, you select your strategy, program it, and then your broker may execute it.
- Can algorithmic automation make up for the emotional barriers in trading?
Certainly, it can. Fighting emotional barriers is one of the major benefits of algo trading automation. It controls your emotions, gives you scalability and bandwidth, and empowers you to work on your strategies. Meanwhile, the execution will be taken care of by a computer. Unless you interfere with your port all the time, automation would be your best friend.
- Can C++ and Java be used for algo trading?
Both C++ and Java can be used for algo trading. In fact, R and Python are two other popular coding languages in use. Depending on the frequency and latency, you can research and find out a language that suits your strategies the most. For medium and low frequency trading, any language can be used. For high frequencies, C++ is the preferred one.
- Can NRIs trade through algorithms in the Indian market?
Yes, NRIs can algo trade in the Indian market. You just need to find the right broker who has experience with NRI traders. However, there is a small number of restricted stocks that you cannot invest in.
Algorithms are a human invention and have the ability to work on all the possibilities that a human mind could come up with. Algorithmic trading strategies are designed with market behavior, uncertainty, and volatility in consideration. Depending upon market conditions, you can also switch from one strategy to another.
With AI (Artificial Intelligence) and ML (Machine Learning) in the picture along with the use of Big Data, algo trading can actually bring in a trading revolution. In developed countries, the volume of algo trading is a staggering 70-80%. In India, it is about 50% already. In the years to come, it is expected to have a market share of 95%+ with manifold volume growth.