What is Algo Trading

What is Algo / Algorithmic Trading? – Can Computers Trade For You?

Algo Trading is nothing but a computer program that follows a particular trading strategy that places buy and sell orders. These orders are placed at a speed that cannot be matched by any human being.

Just like how Alexa answers all your questions, plays songs for you, and sets reminders and alarms, Algo’s can follow your trading strategy and place buy/sell orders for you while you are working at your office or chilling on a trip.

Pretty interesting, isn’t it? But How does it work?

This article has answers to all your questions! 

But before we proceed, why don’t you read our blog on What is Online Trading? 

Content:

Algo Trading Meaning

What is Algo Trading? It is nothing but a computer program that follows a particular trading strategy and places buy and sell orders. These orders are placed at a speed that cannot be matched by any human being.

A computer program is coded through various languages like Python, C++, Java, etc. 

Now you might say, I am not a programmer, Algo Trading is not for me. 

Well, that’s not true. Anybody and everybody can have a Stock Trading Algorithm. How? 

There are companies that provide ready-made Algo strategies or help you in coding your own strategies. We have listed the Top Companies that provide Algorithmic Services at the end of the article.

Learn about different forms of online trading. Click on the links provided below to read about them in detail.

Trading Types
What is Premarket Trading?
What is Commodity Trading?
What is Futures Trading?
What is Options Trading?

Real-world examples of Algo Trading

Now let’s Learn Algo Trading with a real-world example:

  • Assume you have a simple trading strategy based on RSI (Relative Strength Index) Indicator.
  • For those who don’t know what RSI is? Here’s how it works: 
    • RSI shows you the overbought and oversold zones of a stock. As you can see in the below image, RSI has two lines, one is 80, and the other is 20. 
    • When the RSI is above 80, the stock is said to be in the overbought zone, indicating to sell. And when the RSI is below 20, the stock is said to be in the oversold zone, indicating to buy.
  • You can use this strategy and place orders in two ways:
  • Manually: By constantly monitoring the RSI to touch the overbought and oversold zone and place orders yourself.
  • Automatically: By programming an Algo to place buy and sell orders automatically.

Is Algo Trading Profitable / Advantages of Algo Trading

Yes, algorithmic trading can definitely be profitable if done correctly. Here are some of the benefits:

  • Orders will be placed instantly at accurate prices.
  • Human errors during order placement will be completely eliminated.
  • You can test your trading strategy on the historical data to see how it works.
  • No room for emotional and psychological errors.

Best Algo Trading Strategies

Check out the Top 3 Algo Trading Strategies that are commonly used by Professional Traders:

  • Mean Reversion Strategy
  • Trend Following Strategy
  • Arbitrage Trading Strategy

Mean Reversion Strategy

This strategy suggests that if the price of the stock suddenly/unusually moves toward a direction (either high or low), it will revert back to the long-term average price levels. So in this strategy, the algorithm places a buy order when the stocks hit an unusually low price level and place a sell order when the stock hits an unusually high price assuming that the stock will revert back to the average price.

Trend Following Strategy

In this strategy, the algo finds out a potential trend in the stocks using various technical indicators like Moving Average, RSI, MACD, etc. Whenever these technical indicators give a buy or sell signal, the algo immediately places the orders and follows the potential trend. This is the most common and easiest strategy to do algorithmic trading.

Arbitrage Trading Strategy

Arbitrage is nothing but buying the same stock on NSE and selling on the BSE or vice versa. There is a slight difference in the prices of the same stocks that are listed on the NSE and BSE. For example, If XYZ stock is trading at ₹ 50 on NSE, it may be trading at ₹ 49.5 on BSE.  The difference in prices may be higher depending on the illiquidity of the stocks.

Algos are created to buy a stock that is trading at a lower price in one exchange and sell it on another exchange that is trading at a higher price or vice versa. 

If you are interested in knowing about the best strategies used in Intraday Trading, then click on this article. 

Along with these strategies, there’s one more important strategy that you should know about, i.e., Hedging. Click here to learn about what is hedging in the stock market!

Now that you have got a gist of What Algo Trading is and How it is beneficial to you let’s learn how to create an Algo.

How to create an Algo? What are the things required to build an Algo?

Step 1: Get a trading strategy in computer code. For this, you can either Buy a predefined Algo trading strategy OR Code your own trading strategy. First, let’s cover the steps to code your own trading strategy:

Step 2: You can code your strategy either via coding software like python, java, c++, etc., or use charting software like Amibroker or Ninjatrader. These charting softwares have their own coding language.

Step 3: Get NSE & BSE data feed. Why? The strategy you created will work only when it’s supported with Live Data of stocks like price quotes / volume etc.  

Step 5: Get an API of the broker’s trading platform. An API connects a coded algorithm (trading strategy) and brokers trading platform. 

Step 6: Start automating your trades!

Here’s an approximate pricing structure to build an algo:

  • Trading Software like Amibroker or NinjaTrader might cost you up to ₹ 22,000 per year.
  • Data feed might cost you in the range of ₹ 2,000 to ₹ 5,000.
  • If you are an Aliceblue Client, API will be FREE of cost. 

Get This Deal!

But, if you’re new to the concept of a Demat account, then read our blog on What is Demat Account? 

Don’t miss out on the amazing discounts! 

Start your Algo Trading Journey by opening an account with Alice Blue Now!

We hope that you are clear about the topic. But there is more to learn and explore when it comes to the stock market, and hence we bring you the important topics and areas that you should know:

Market What is Primary Market?
Difference between IPO and FPO
Bull vs Bear Market
Investment What is Bonus Share?
What is Valuation of Shares?
What is Corporate Action?
Analysis Stock Market Analysis
Individual Topics What are CTT & STT Charges?
India Vix
Difference between FDI and FII
Account What is Trading Account
What is Demat Account

What Is Algo Trading – Quick Summary

  • Just like how Alexa answers all your questions, plays songs for you, sets reminders and alarms, Algo’s can follow your trading strategy and place buy/sell orders for you while you are working at your office or chilling on a trip.
  • Algo Trading is nothing but a computer program that follows a particular trading strategy and places buy and sell orders. These orders are placed at a speed that cannot be matched by any human being.
  • Algo Trading can be really profitable if done correctly. The benefits of Algo trading are that orders will be placed instantly at accurate prices without the chance of any human errors.
  • You can test your trading strategy on historical data to see how it works, eliminating the risk of emotional and psychological errors.
  • Again, to use them effectively to the fullest of your profits, there are certain strategies that you must know:
    • Mean Reversion Strategy
    • Trend Following Strategy
    • Arbitrage Trading Strategy
  • Aliceblue charges ZERO Commission on the API, whereas other brokers charge at least ₹ 2000 per month for the API alone.

Algorithmic Trading Meaning – FAQs

1. What Is Algo Trading?

Algo trading, or algorithmic trading, is a method of executing orders using automated pre-programmed trading instructions considering variables such as time, price, and volume.

2. How does algo trading work?

Algo trading uses computer algorithms to execute trades based on pre-set criteria. For example, a simple algorithm could be programmed to buy a stock when its 50-day moving average crosses above its 200-day moving average.

3. What is an example of algo trading?

An example of algo trading is the Volume Weighted Average Price (VWAP) strategy. In this strategy, a large order is broken down into smaller ones to minimize the impact on the market price.

4. Can algo trading be profitable?

Yes, algo trading can be profitable as it allows for high-speed, accurate trades, and can identify opportunities that a human trader might miss. However, it requires significant technical knowledge and understanding of market conditions.

5. Is Algo Trading Legal In India?

Yes, it is legal to do algo trading in India. It is governed by the Securities and Exchange Board of India (SEBI), and both large investors and small traders use it.

6. Is algo trading free?

Even though there is no fee for algo trading itself, costs come with it. There may be costs for data feeds, fees for using software or platforms, and transaction fees charged by the brokerage. Also, there may be licensing fees if you use an algorithm or strategy from a third party.

7. What are the disadvantages of algo trading?

Algo trading, while efficient, comes with certain disadvantages. 

  • One such downside is the potential for mechanical failures. 
  • The theory behind algo trading sounds perfect, but the markets can be unpredictable, and systems fail. 

8. What is the success rate of algo trading in India?

The success rate of algo trading in India can’t be generalized as it largely depends on the algorithm used, the trader’s expertise, and market conditions. It’s essential to note that while algo trading can enhance trading efficiency, it doesn’t guarantee profits.