Why Advisors Use Algorithmic Trading; Man Vs. Machine

In an age of ever-advancing technology, industries are revolutionized by the automation and optimization of tedious manual processes. The trade management industry is no exception. Artificial intelligence, robo-advisors, and trade execution algorithms have dominated market strategies, with as high as 80% of US stock trades in 2018 being machine-led. But the use of algorithmic trading systems highlights a classic comparison: man vs. machine. 

There are numerous reasons why advisors use algorithmic trading. Speed and accuracy are obvious benefits in a quickly moving industry. Yet there are human elements of being an advisor that simply cannot be quantified or duplicated by algorithms.

Automating the Trading Process with Algorithms 

Trade execution algorithms are computer programs that expedite and automate the decision-making process for trade entries, exits, and money management based on pre-set rules and limits. The rules are designed based on factors like knowledge of derivatives, statistics and probability, risk management, and historical data. 

This more advanced form of trading is most often used by hedge funds, mutual funds, pension funds, and investment banks. By adhering to the determined guidelines, algorithmic trading systems can identify opportunities and place trades at a frequency and speed that is impossible for a human to match. Execution algorithms can also offer protection against slippage, or the negative effect on execution prices due to latency.  

By automating some of the tedious manual processes involved in trading, advisors can optimize their use of time, among other benefits. Statistics have shown that algorithms add liquidity to the market, notably make the trading process easier, and increase the investor’s, advisor’s, or trader’s profit level at the same time.

Reasons Why Advisors Use Algorithmic Trading Systems

Using algorithmic trading systems to execute trades and monitor the market for opportunities and risks is appealing for a variety of reasons. 

“Time is Money”

Computer algorithms monitor market conditions and assess risk based on various indicators every second, around the clock. They can execute trade orders in microseconds as soon as criteria are met, which can make a big difference in a trade’s outcome. Latency, or the delay introduced in the movement of data points from one application to the other, is kept as low as possible with algo trading. 

Advisors use algorithmic trading systems to save countless hours of manually monitoring positions and movements in the market. Instead, they can use their trading skills and knowledge to implement an automated strategy and focus more time on building personal relationships with clients. 

Accuracy and Backtesting

Another reason why advisors use algorithmic trading is an increased level of accuracy. Algorithmic trading eliminates human error, as long as the rules for the algorithm are absolute, with no room for interpretation. Though it is not specific to automated trading, with backtesting, advisors can fine-tune strategies based on historical market and company data before risking money in live trading. Good algorithmic trading software is designed to act on real-time market data and make automatic changes if an algorithm’s accuracy or performance has decreased. It will also likely have options for integration and scalability. 

Diversification of Portfolios

Automated trading systems help to diversify portfolios because they can find opportunities, monitor and trade over several financial markets with multiple strategies at one time. Potential risk is also spread across markets, providing more protection for advisors in the case of a market crash.

Eliminating Human Emotion

Machine-led trading eliminates emotional factors like greed, fear of loss, false intuitions, mental fatigue, and mood swings from trading decisions. As soon as trade rules have been met, an automated trading system will execute trades without hesitation. This allows for a greater discipline than a trader’s human abilities to stick to a strategy, especially after the emotional trauma of a big loss or the high of success. 

The Flipside of Using Algorithmic Trading Systems

Advisors use algorithmic trading systems, in short, to make their jobs easier. But technology should not be blindly trusted as failures can happen. Algorithmic trading has been blamed for wild swings and flash crashes in the market, because the right conditions can trigger a large number of trades, increasing trends. 

System performance should be monitored regularly, and traders should fully understand any software programs before putting hard-earned money in the hands of an algorithm. 

Personal relationships are also a critical differentiating factor between man and machine.  There is a “measurable correlation linking high-net-worth clients’ personal connection to their firm and advisor and the financial performance of firms.” For this reason, advisors mustn’t simply substitute automation for personalized, analyzed and carefully executed trades. 

BlazePortfolio® offers powerful trade order management features that help you take full advantage of trade execution algorithms. From electronic trade executions to order blocking, stop and limit orders, and trading desk communication, Blaze software adds value to your clients’ portfolios. To learn more, contact us to set up your software demo.

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