Forex algorithmic trading, also known as Algo trading or black-box trading, uses algorithms to trade financial instruments automatically.
These algorithms are written by traders and programmers and used to identify opportunities in the market and execute trades based on these opportunities. Forex algorithmic trading can be used in several ways, but it is typically used to take advantage of price movements and enter and exit trades quickly.
It can also be used to place orders that are not possible manually, such as large or complex orders. Forex algorithmic trading is growing in popularity due to the speed and accuracy that it can provide.
Automated systems can offer more opportunities to trade with fewer mistakes. However, this does not mean that robots are replacing human traders – it simply means that they can work together.
In general, Forex algorithmic trading is used for three main reasons: to speed up the trading process and increase efficiency, reduce errors in placing trades manually, and allow a trader to take advantage of more extensive opportunities than they could manage manually.
The algorithmic trading system takes information from the market and creates buy/sell signals based on the data it has received.
These signals are then sent back to the trader who enters them into a suitable account management system. The order may be a limit order or a market order if it is an entry signal, to exit the position if it is an exit signal. The trader does not need to decide the signal price, making this system much more straightforward than manual trading.
Two types of Algo trading
There are two types of Forex algorithmic trading: Algo trading done by one trader working alone, and Algo trading performed by teams. When a single person uses an algorithm to trade, they write the code themselves or hire someone else to do it for them.
This type of system is often referred to as “do-it-yourself” (DIY) because you either create your algorithm or purchase one that has been made elsewhere. A significant advantage of doing it yourself is that there are no licensing or royalties costs associated with using the software.
When a team uses an algorithm to trade, it is often called a “black-box” system because the inner workings of the code are hidden from view. The team may include traders, programmers and analysts who work together to create and execute the signals generated by the algorithm.
This type of system has several advantages over the DIY system:
- First, it allows for more collaboration and knowledge sharing between team members.
- Second, it can provide consistency in trading strategies across different markets.
- Third, it can help reduce emotions that can often lead to bad decision-making.
- Finally, it can test new ideas and designs before risking real money on them.
How does Forex algorithmic trading work?
Forex algorithms are designed to take advantage of short-term price movements. They are often used to monitor the markets, identify entry signals and place orders to enter trades. They can also monitor position exits and exit orders to exit trades when necessary.
The process typically begins with a preliminary analysis of market trends or other data that might lead to an opportunity where algorithmic trading would be profitable – for example, if the current exchange rate seems likely to move in one direction or another or based on news releases that may influence currency pairs.
Forex algorithms take this information as input and generate buy/sell signals which are then sent back out into the market where they can be executed manually through buying or selling at the desired price; or – in the case of auto-trading or using an Expert Advisor (EA) – the algorithm can automatically trade the signals it generates.
Forex algorithmic trading can offer several advantages over manual trading, including:
- Increased speed and accuracy of order placement.
- Reduction or elimination of emotions can often lead to poor decision making.
- Ability to take advantage of more extensive opportunities than would be possible manually.
- Automated monitoring and management of open trades and positions.
- Elimination of human error in trade execution.