Algorithmic Trading: Why the Pros Rely on it
By Jason McIntosh | Updated 17 May 2023
These days, we rely on computers more than ever before. It’s for good reason: as technology becomes more sophisticated, it makes our lives easier and more efficient.
The share trading world is no exception. Algorithmic trading can be traced back to the 1970s, and it’s grown to be incredibly popular among investors who value consistency and wide market coverage.
What is algorithmic trading?
As you might have guessed, algo trading follows a pre-programmed set of instructions — an algorithm — to identify opportunities. This style of trading automates the selection process based on variables like price, timing, and volume (which we’ll dive more into in a minute).
Algorithmic trading systems have the potential to scan thousands of stock in a blink of an eye, so they’re faster and more efficient than human analysts. Along with removing emotion from the equation, algo trading can lead to more money making opportunities.
How does algorithmic trading work?
It’s actually quite simple. An investor will set the criteria for buying or selling a stock. They’ll then instruct the algorithms to scan the market for those specific conditions.
Once a stock meets that criteria, the system alerts a human. With algo trading, investors don’t need to be glued to their screens all day. Once they’ve decided on a set of rules, they can sit back and let the algorithms do all the leg work.
Here are a few examples of share trading algorithms:
- Buy when a stock’s 50-day moving average goes above its 100-day moving average.
- Exit a stock that falls by 25% from its recent high.
The online share trading system will then monitor the stock price and moving average indicators and alert the trader when those conditions are met.
This short video explains how one group of everyday people made a fortune from rules based trading.
What are the pros and cons of algorithmic trading?
A major benefit of algo trading is the enormous amount of data that can be analysed. It’s also fast and accurate, meaning that algo investors get opportunities that many regular investors miss.
Another perk of algo trading is that it’s systematic and objective. Since the scanning process is completely automated, we don’t have to worry about human error or bias. It also helps investors to avoid acting impulsively and being swayed by market sentiment or emotion. Instead, they approach each trade logically and consistently. This can help increase the odds of attaining repeatable success.
At Motion Trader, we’re big believers in rules-based trading, and we use historical data to back-test our algo trading strategies. We can simulate how well a particular strategy may work before risking real money. This helps avoid years of trial and error. We can potentially learn more in an afternoon of back-testing then many investors learn throughout their careers.
Like anything in life, algo trading has its limitations. There’s no guarantee that a strategy that has worked well in the past will continue to thrive in the future. This means it’s important to monitor your results. Remember, an algo strategy is only as good as the rules behind the code.
This raises an interesting question: Should you ever break your trading rule? The quick answer is that successful traders follow their rules consistently. But there are occasions when they may break them. Knowing when to do this could make a big difference to your results. You can read more about breaking trading rules here.
What are the main algorithmic share trading strategies?
A primary goal of algo trading is to consistently identify opportunities across many markets or stocks. Some of the most popular algo strategies include:
- Trend following. This is where an investor buys a stock that’s in a rising trend. They may use indicators like moving averages, price breakouts, and a range of other technical indicators. The aim is to let profits run and to cut losing trades relatively early. This is a relatively simply approach to apply, and is what we use at Motion Trader.
- Arbitrage trading. Buying a dual-listed stock at a lower price in one market and selling it at a higher price in a different market. With this strategy, the algorithm looks for differences in stock prices across two exchanges to increase profits.
- Mean reversion trading. Placing trades when a share runs too far outside of its defined trading range. It’s based on the idea that big price changes are temporary, and that a stock will revert back to its average value. For example, a trader might buy after a quick decline, or short a stock that surges higher.
Our algorithms can help you make informed decisions
Algo trading relies on rules and statistics to identify optimal trading conditions — and act on them faster than a human. Because in the share trading world, no one likes a missed opportunity.
Motion Trader’s algorithms scan practically every ASX stock (minus EFTs and LICs) and detect the slightest movement in share prices. We use this data to alert members to what we believe are the best ASX shares to buy now.
Where to invest now?
Learn how to identify some of the best stocks to buy in this free video training. You’ll learn a complete trading process for buying and selling shares with confidence.
If you’re ready to get started, try a no obligation free two week trial of Motion Trader, and see what a professional trading approach could do for you.
Jason McIntosh | Founder, Motion Trader
Jason’s professional trading career began over 3 decades ago. He’s a founder of two stock advisor firms, a listed funds management business, and has helped thousands of investors navigate the stock market. Click here to read Jason’s incredible story of, at age 20, sitting alongside some of the world’s greatest traders (and the life changing experience that came with that).
I'm Jason McIntosh, the creator of Motion Trader. My career began in 1991 on the trading floor at Bankers Trust. Nowadays, I trade my own systems from home in Sydney.
Motion Trader is for investors who value robust analysis, data driven entry and exit signals, commentary, and education. I use engineered algorithms to identify when to buy and sell ASX stocks. No biases or guesswork, just data driven signals.