Will Equity Trading Get Automated or Displaced?

Trading essentially has been the most human-centric job in the world for decades. It is not only about numbers, analysis, and evaluations, but also involves a lot of human emotion, sentiments, and other factors. Wherever a human is involved, there are chances of errors and untimely decisions. Additionally being in front of the computer screens for hours may not be possible for everyone. In such scenarios, automated trading powered by AI trading tools can be super beneficial.

AI stock trading is widely used everywhere in the world. According to an article by ET, in the developed market a total of 70-80 per cent of trading volume is covered by artificial intelligence trading. This figure in India stands at approximately around 50%.

Will the indulgence of AI in trading be the future of the trading world? Or the humans will still be at the core of the trading? Read further to understand if artificial intelligence trading is the next big thing.

Automated trading: artificial intelligence in equity trading

Automated trading is defined as an algorithm set by humans that captures certain predefined technical aspects and executes the buy or sell orders when they find the trigger. Traders use automated trading methods to make precise decisions of buying or selling at the right time. Additionally, with the help of algorithms, traders can also execute multiple types of orders. From the simplest algorithms to technically complex algorithms that involve multiple conditions and analytical points of view, artificial intelligence trading can do it all.

According to an article by Technology Review, during the 2000s, Goldman Sachs had around 600 traders in their New York headquarter buying and selling the stocks in the US equity markets. Today this department is handled by just 2 traders. Engineers have taken the charge and have developed automated trading programs. These numbers indicate the future of automated trading. The use of AI in trading can be beneficial at multiple levels.

Benefits of automated trading

Automated trading can be beneficial when the trader has a specific trading goal or strategy in mind. For instance, artificial intelligence trading can be useful if a trader is considering only technical factors to take calls. It can also be used when a trader makes trading decisions based on news, affairs, and current market scenarios. It reduces the time taken to interpret the market and take quicker decisions on the edge.

AI in stock trading is led by another interesting factor called sentiment analysis. It can help in taking the right trading decisions. It focuses on picking up the keywords based on the market trend from blogs, articles, opinions on social media, or any of the digitally available mediums. Sentiment analysis can help to understand the overall emotions of the market. It understands how the world is reacting to a situation and then sends triggers to execute trades.

There are heavy chances of fat finger errors when a person is sitting on the computer making the trades. For an instance, in the year 2014, a trader in Japan placed orders worth more than $711 billion. It included orders like 1.9 billion shares of Toyota, a whopping 57% of the company’s capital. Such mistakes can be avoided with the help of automated trading.

Automated trading also brings two additional benefits. It can work constantly without fatigue. Additionally, there are no emotions involved while trading. You can also avoid panic situations with the help of automated trading and optimize the returns.

Disadvantages of automated trading

Automated trading has also given a boost to high-frequency trading, famously known as HFTs. Such trades can manipulate the market and eat up the investor’s money in one go. In such nuances, keeping an eye on the market is tedious. If everything gets automated, it will be just returns given by an automated trading strategy.

Although automated trading brings on the table advantages like disciplined trading, backtesting the strategy, and minimizing emotions, there are a few disadvantages too. After all, automated trading is based on machines. There is a high chance of errors and mechanical failures. While enabling the algorithm for automated trading, such errors can result in misbehaviour. In turn, it may affect the market in terms of volatility. Additionally, the algorithm may also perform poorly in a few cases due to information overload.

How are trading rules established in automated trading?

Automated trading is not as difficult as it seems to be. Multiple platforms support automated trading. A trader can select multiple parameters from the available indicators that are used to analyze the market. Once these parameters are set, the trades are executed automatically when it meets the set criterion.

For example, if a trader sets a parameter to execute the long position when the 50 days moving average crosses the 200 days moving average in a 15-minute chart for the alpha stock. Once this condition is triggered, the algorithm will automatically take a long position.

Investment strategies differ from trader to trader. To fulfil their trading goals, a trader may be using another set of parameters than given in the software. Moreover, the pre-defined indicators may or may not be the correct tool to analyze the market. Traders collaborate with designers to customize the algorithms for their automated trading strategy. Customized algorithms are much more flexible and align better with trading goals.

Once you decide the parameters in the algorithms, the automated trading tools keep monitoring the market movement. It keeps tallying the market condition with a defined set of rules and places the instant trade when it meets the condition. This saves one from making huge losses and optimizes the profit at the right time.

Human is at the end of the technology

Technology aids in reducing errors, bringing accuracy, and avoiding emotions. Automated trading is also used to avoid scams and scandals that can shock the market widely. There are chances of failures of automated trading systems in case of complex decision-making. Humans can have instincts that a machine may not probably possess even after years of data feeding and intelligence development.

Automated trading systems only look at the historical data or the patterns. But the market keeps changing and evolving constantly. The software may not be able to analyze situations like war, pandemic or recession. In such situations too, it will keep on triggering the trades based on set algorithms. Humans are more adjustable and comfortable reacting to instant market situations. The machines will have to be fed with the new information, by that time the trend may have faded.

Machines are designed by engineers. They are trained and programmed through a human brain. All the algorithms are programmed according to the risk appetite of the traders. No matter how unbiased the algorithm is, in the end, it is developed to satisfy the emotions of traders.

It can be said that automated trading is the new age era and is here to stay but will always have certain limitations. Such limitations can only be fulfilled by human beings. Automated trading tools will act as a complementary product for traders to analyze and understand the market. It will be the final call of traders at the end of the day, whether to execute the trade or not.

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Frequently Asked Questions Expand All

The total automated trades have been constantly rising in the US stock market. In the year only 15% of the total traded volume was executed by automated trading, but as of today, a whopping 80% of total trades are executed by AI-based automated trading tools.

Looking at the current numbers, there are high chances of AI taking over human trading, but it won’t be only AI-based trading. Such tools will complement the research and analysis for traders and help them to optimize their trading.

Trading bots can be effective in situations when the trader is clear of their trading objectives. The trader can give a clear set of instructions to the bot and it may act accordingly. But when a trader has a complex trading and analysis approach, it surely requires human involvement.

Algorithm-based trading bots are legal in India. SEBI gave a green flag to algorithm-based trading in the year 2008. Currently, the stock exchanges provide the approval for such bots, which are conceptualized and coded by the brokers.