What are the different types of Algorithms that can be used for automated trading?

If you are into stock trading and have been still using the traditional method of trading, then it’s time to bring some change. Automated trading, also called Algo trading, is creating waves in this sector, bringing down human error costing huge loss. Algo trading uses a computer program following the defined set of instructions to place the right trading. In other words, it is a trading strategy where a set of rules are applied to the given input data to generate entry and exit signals (buy/sell). However, to use this Algorithm trading software, you need to undergo exhaustive quantitative research work. Brains behind the quantitative trading strategy are called Quants. The individual is a professional employed by a quantitative trading firm that applies advanced mathematical and statistical models to create alpha- seeking plan. 

There are different types of automated trading strategies that are implemented. Each system or strategy works differently to improve the odds of profiting. The more you know about it, the most it will be easy for you to make a profit. As an Algo trader, you must know some of the terminologies used as types. 

Let us check some of the types of Algorithm trading-

• Momentum-

For this type of Algo trading, market trends and market sentiments are significant. The main goal is to find patterns indicating new trends and to capitalize on it. By executing these trades using Algorithmic methods, you do not have to oversee them. You can also use the trading platform to inform the system for specific orders. 

• Trend-Following-

Similar to momentum trading, trend trading is also the widely followed Algorithmic trading strategies. The methods use Algorithms to execute trades. In the case of stock breaks, you might have executed an order to buy the stock. 

• Statistical Arbitrage-

Arbitrage is not new in the field of trading. It was available before the internet. Arbitrage usually occurs when the value of the security is different from the current market. For example- If a specific stock is valued for Rs 100 on the BSE and Rs 90 on NSE, then you can buy the stock listed on NSE. In Algo trading incorporated with arbitrage, the sophisticated system must buy and sell trades instantly. Here, you must know that the arbitrage-trading system does not last for long, and one must take advantage of the initial stage itself.

• Factor-Based-

Similar to other Algo trading types, in factor-based, the system looks for the circumstances arising around the given price for security purposes. Furthermore, it searches for the same conditions to recur. Listing down the stocked based on certain factors, including market capitalization and free cash flow.

• Mean Reversion-

In many cases, stock traders have the assumption that stock prices return to mean price. Algo trading strategies look for situations that can capitalize on the reversion. For example, if you have overbought the stock, then the Algo system will initiate short sell-by taking advantage of price fall.

• Scalping-

For many stock traders, scalping can be a bad thing but can bring profit. Scalping relies on certain differences between the bids and asks the price of the security. The main aim of using this type of Algo trading is to create an impact on the market. 

As we have seen some different types of Algorithm trading, now let us check some benefits of the same-

• Allows trading at best possible prices

• Trades are timed correctly and instantly

• Brings down the risk of human error

• Allows to back-test using historical data to see for a viable strategy

Conclusion: