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The Beauty & Beast of Automated Trading

Discussion in 'Forex Discussions' started by painofhell, Nov 20, 2015.

  1. painofhell

    painofhell Content Contributor

    Jun 24, 2015
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    If something is too good to be true, it often is. However, automated-trading systems have a necessary place in the discussion about finding out what works for you and what doesn't as a trader. Today's article will talk about the benefits and drawbacks to automated trading systems.

    The Beauty

    There is no shortage to automated trading systems that promise you the world. However, you should always keep a cautious Other names that these systems go by are trading robots and expert advisors to name a few.

    The premise is simple: you load the auto trading robot onto to your computer, plug your account number in, and then, when the system registers a signal, that signal goes into affect onto your account.

    Please note, although I'm a discretionary trader (meaning I enter and exit trades manually), I have seen impressive rounds of successful trading through automated trading systems.

    They are rare, but they are out there. I'm not here to recommend any, but please don't think that this is a one sided argument because I've seen some systems work very well and others work terribly poor. However, if after reading the post on Elliott Wave, you thought that trading is too difficult, auto trading may be for you.

    Is This Similar To High Frequency Trading?

    It can be but probably isn't. High Frequency Trading or HFT is a major buzz word in the news as trading desks have been reduced in favor of programmers at some top-tier banks but there is a key difference between HFT & what we're discussing here. High Frequency Trading is effectively a legalized form of front-running large block orders or finding arbitrage opportunities in the market and capturing that spread in nano seconds.

    What we're discussing is more akin to automating a moving average crossover or Ichimoku signal triggers you into the trade and then exits you out of the trade at a pre-determined profit level or when the indicator reverses.

    Mental Biases prevent us from optimal trading behavior

    As a discretionary trader, fighting mental biases are as much of a focus to me as analysis of charts.

    Mark Douglas referred to this as mental analysis, in addition to fundamental and technical analysis. There are handful of mental biases that ruin the trading career of many traders or prevent them from achieving the results they feel they're working hard enough to earn. Here is a short list of some of the most common mental biases that prevent peak performance in trading:

    -Loss Aversion: Afraid to take a loss

    -Over Confidence: Because I'm in this trade, it's a winner

    -Over Optimism: This has to work out, I can feel it!

    -Hindsight Bias: I knew it all along, preventing us from correcting past mistakes

    -Myopia: An overt view on the short-term outlook without care for long-term consequences

    This small list (relative to all mental biases that prevent optimal performance) leads some people to believe that automated trading is the best path forward because emotion is removed. Of course, you have to allow the automated system to run its course as its designed and not switch after the first draw down or you're just trading systems instead of currency pairs.

    Data Mining Bias

    This brings up another key component that prevents people from choosing the best systems for their trading. There is still one bias that you still need to be aware of, even if you're set on choosing an automated trading system. That is Data Mining Bias, which means that you'll be naturally inclined to chose the best performer over any back-tested data and mentally extrapolate that performance going forward.

    The problem with this approach is that the top performer was likely skewed to perform best over the back-tested period and not necessarily the environment moving forward. A better approach is to have multiple systems that are optimized for different markets such as trending, range-bound, or high volatility. Regardless of your methodology between discretionary or automated, make sure you limit your leverage to limit your risk.

    Happy Trading!
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