Autotrading

Myra Kale
8 min readOct 28, 2020

If you are new to Forex trading or have been trading for some time now, you would have come to come across many “Holy Grail” autotrading systems that promise to make you rich within no time.

If it sounds too good to be true, it probably is

When it comes to Forex, there is no shortage of scams. Almost all systems promise high profits at a low price — Sometimes even seasoned traders get conned into buying and losing with such systems. This article provides some insights into autotrading systems and how to identify whether a system is good or just yet another scam.

What is Autotrading?

Manual traders buy or sell an instrument based on their analysis or experience. Here the buy/sell trading action is executed by the trader on the trading platform provided by the broker. When the process of executing trades automated using a software program then it is called autotrading. Before the advent of online trading, autotrading was limited to banks and institutional trading firms.

Trading involves an active participation in markets with an aim to make profit. This is different from investing where the strategy is to buy and hold over a longer period of time. Investors buy an instrument expecting its value to appreciate over time. Traders look for buy and sell opportunities to make a profit from the market movements. In the past decade, retail trading has gained in popularity in a wide range of markets like stocks, F&O and Forex.

Metatrader (MT4) is one of the most popular trading platform where autotrading can done using an expert advisor or a script. MT4 scripts are used when the trader requires semi-automation. In this case, the trader runs the script to execute trades automatically when a certain price action conditions are satisfied. In automated trading, a software is used to execute trades on behalf of the trader. There is no trader interaction, other than setting the initial parameters. MT4 EAs or Forex Robots are software programs which execute trades based on a pre-programmed trading logic.

Components of Autotrading

Autotrading involves at least four important components

  • Trading strategy
  • Money Management — Calculating trade size
  • Trade execution — Buy/Sell, close and trade modification
  • Back-testing

Trading Strategy

The success or failure of any autotrading program depends on the trading strategy that is implemented into the system. The robots are a set of rules which dictate conditions for execution, modification and closure of trades. The implemented strategy may be a simple moving average cross over or a much more complex Neural Network system.

For purpose of explaining the process of automated trading we use a an example of a simple moving average cross over strategy .

Simple SMA Cross Over Trading Strategy:

Buy : 20 SMA moves above 100 SMA. Close Trade if 20 SMA moves below 100 SMA.

Sell : 20 SMA moves below 100 SMA. Close Trade if 20 SMA moves above 100 SMA.

The above autotrading system will track the price feed from the broker and execute Buy or Sell order when the 20 SMA crosses above or below the 100 SMA. In case the SMA cross over happens when a trade is open, the trade is closed.

Trader does not have a need to track the price charts or execute trades when the cross over occurs. Autotrading system frees the trader and has a potential for generating passive income.

The above example is one of the simplest and basic of all traditional trading strategies. Most autotrading systems will generally involve more complex strategies. For example, machine learning system create logic based on previous price action and expected outcome. This is different from traditional strategies where the logic rules are constant or pre-programmed.

The autotrading system calculates the trade size based on defined the risk level. Good trading practice is make sure the loss from a particular trade never exceeds 10% of the maximum loss the trader is willing to accept on his account. For example, if a trader has mentally set tolerance of 20% capital loss, then the trade size should be calculated in such a way that the loss from the trade will never be more than 2%. No matter how accurate the trading signal is, one should always remember that trading is a speculative activity. The chances of winning or losing any particular trade are always equal. A good strategy and discipline will only tilt the odds in the trader’s favor in the long run.

Money Management

There are many money management strategies that can be implemented into the autotrading software. Geometric money management is one of the safest and most recommended strategies. In this system, the trade size is increased as the capital grows and decreased when there is a drop in capital. This is implemented by setting a standard risk percentage per trade.

When trading Forex, the money management system will also need consider the account leverage. One of the most major factors making Forex seem more risky is due to the higher leverage offered some brokers.

Trade Execution

Forex markets are open 24×5 and trading signals can be generated at any time of the day. One of the best features of autotrading is the ability to execute trade orders immediately when signals are triggered. In case of manual trading, the trader has to execute the trade as soon as the signal is generated or place a pending limit or stop order before hand. This may work for some strategies but is very difficult when the signals are based on algorithmic logic. Manual traders also have to deal with the human emotions and have to be disciplined when trading.

Back-Testing

One of the greatest advantages of automated trading is that it can be back-tested on past data. While trading on real money account is one of the most reliable form of strategy analysis, backtest results are equally important. It is quite easy for any strategy to be successful in real trading for a short duration. In some cases the success periods may be a few days, three months, six months or maybe even two years. This leads to setting trade sizes at risk levels which will be harmful to the account when an unexpected drawdown occurs. Without back-test there is no information about the expected drawdown the strategy could see in live trading. Drawdowns are a normal part of any strategy and knowing the depth of expected losses will allow the trader to choose or reject the strategy.

Back-Testing the automated trading strategy is a good way to derive the strategy metrics even before going into live trading. The back-test metrics can be used to define the following

  • maximum loss that should be expected when trading
  • instruments and conditions which are most suitable for trading the strategy
  • typical gain expected
  • parameters adjustments for different instruments (if required)

Backtest should be conducted on high quality tick data with spreads similar to real trading conditions.

Fraudulent developers can manipulate back-tests by tweaking the strategy to avoid losses. Even conducting the backtests on your own system will not be able to detect a dishonest, manipulated or curve fitted strategy.

Honest back-tests serve a good purpose and will serve as a reference to set risk levels. It provides an idea about the drawdowns depth which should be treated as normal part of the trading strategy.

There is one reliable way to verify if the back-test results of a particular strategy is valid. This is by comparing the live trading results with the back-test result of the same period.

For example, let us assume that a strategy has back-test results for the period between 2010 to 2017 and live trading results from 2018. In this case, the strategy should be back-tested for the period of 2018 on the same data source used for conducting the longer period tests. The result obtained from backtest should must be similar to live trading results.

If the results are similar, the longer backtest can be considered valid for further evaluation of strategy.

In case the live and back-test results are different, the system was either curve-fitted or manipulated to produce attractive back-test results. Any strategy can be profitable over shorter timeframes and are bound to fail when price action changes. Therefore it is recommended to consider only strategies that have backtest results of at least 3 years or more. Honest and verifiable backtests ensure the ability of the strategy to survive through price action cycles.

Performance Metrics of a Autotrading System

Knowing about the basic performance metrics is a crucial step in evaluating any autotrading system. It is even more important when the automated systems is a black box developed by someone else. Traders using it need to evaluate its potential performance based on its past results.

This is like buying a car. You need to know its basics metrics like top speed, acceleration, fuel consumption and carrying capacity. You do not need to be an auto engineer to drive, but basic metrics will help you understand if the car will serve your purpose and meet your expectations.

How to identify a good autotrading system?

Verify that the long term backtest results are valid and satisfactory. Always select backtests made using fixed lot size to avoid effect of compounding. Use pips for analysis as it is more accurate than currency values which vary from time to time.

Make notes of the following data:

  1. Number of trades per month
  2. Average Gain and Average Loss (in pips)
  3. Risk:Reward and Success Rate
  4. Max Gain and Max Loss (in pips)
  5. Maximum drawdown (in pips)
  6. Ensure the system has honest back-test for atleast 3 years.
  7. Systems should also provide 12 year back-test for reference even if the results are not good.
  8. System should be able to trade multiple instruments without much optimization.
  9. Validate back-test result by comparing live trading results of same period (preferably at least one year period)
  10. Most importantly, the live trading history must be verified by MyFxBook or FxBlue. Live trading must be conducted if run on a well regulated broker.

Set your gain and loss expectations of trading the strategy based on the above metrics. If the gain and loss levels derived from the data meet your trading goals, then you can consider trading the system.

It is also important to set your trading goals realistically. Some systems may show gains of 20% or 30% per month but any experienced trader will know that such gains are not sustainable.

Is Autotrading Forex Profitable?

It is possible to auto trade profitably. However, traders need to differentiate between good and bad strategies. Understanding the basics is key to making profits with automated trading.

Almost all Forex brokers have now embarked on educating their clients better. Various regulatory agencies have also restricted the leverage to 1:50 or even 1:20. This is a good step to reduce the risk of blown accounts. Many Forex brokers now provide better trading conditions with lower spreads and trading costs. Retail traders now have a better chance of being profitable in Forex trading than before.

iProfit is one of the most successful trading strategies. This Neural Network powered autotrading system has a proven verified track record of over seven years. The system has been back-tested with Dukascopy tick data and the live trading results vs back-test results have been found to be similar. iProfit strategy has a positive risk:reward ratio, with a decent win rate of 60%. This by itself makes the system profitable in the long run. (Read full Review of iProfit Forex Robot).

Originally published at https://auto-trading-systems.medium.com on October 28, 2020.

--

--