Many retail traders pursue automated strategies, using tools such TradeStation or other platforms with robust back-testing functionalities, MS Excel or Matlab, for churning through historical data or Expert Advisors (EA) on MT4 and other platforms. Automating entry, trade management and exits allows retail traders to avoid battling discipline and other psychological issues, which are often difficult to do battle with. Additionally, significant back-testing allows traders to have confidence in the performance of their strategy, assuming that whatever happened in the past is going to continue occurring in the future.
[This touches on a blog post from September where I raised the question of whether retail traders can have an edge in the market. Click here to view that post.]
Here’s an interesting question – can retail traders reasonably expect to make consistent profits in the long run, using automated strategies?
During Sep/Oct/Nov/Dec I spent significant amounts of time working with a well-qualified programmer in attempting to develop an automated trading strategy for two futures markets. I also had the luck to sit down with a systems trader at a hedge fund in the City who talked me through his strategy development and managing the shelf-life of existing strategies. The latter was quite an eye-opener.
It seems that larger players essentially look for the same strategies that retail traders attempt to pursue. Realistically, who has the better chance here? Larger players in the markets have far far superior testing technology, skill base, experience, execution technology and bankroll – if there was an edge that could be found (for however long) with some backtesting performed in MT4, Matlab, Excel or TradeStation, then hedge funds like my colleague’s one, would not bother needing to exist. If there is an edge from time to time, then you can rest assured that hedge funds like the one I visited, are going to be significantly in finding, and then exploiting that edge. If somebody could develop a strategy using MS Excel (like I tried to do for the past several months) then why would somebody else spend millions of dollars on software, hardware and headcount in trying to find an automated edge?
Secondly – purely my own thought here – I wouldn’t be surprised if a broker realised that if an automated strategy employed by one of its clients was making consistent profits, that the broker would quickly hop on the back of it and leverage up the strategy. I certainly would if I was a broker!
Instead of automating, why not rely more on the “human brain edge”?
A human/retail trader can pay attention to a huge number of variables. Many of these variables, and particular the combination thereof, can be very difficult to incorporate in an automated strategy (according to the trader and according to the fund’s owner).
Sure an automated strategy has the advantage of always executing and managing perfectly in line with the strategy spec, but it is probably quite restricted with the amount of parameters that it can reasonably take into account.
In contrast a retail/human trader, over time with a lot of practice, learns to quickly combine a large range of factors in his brain and gets himself into the correct trading setups. This actually constitutes ‘edge’.
Therefore I’d like to suggest that retail traders should probably stick to strategies encompassing aspects that do not lend themselves to programming – e.g. the use of technical patterns, news (pre- & post-), instrument correlations, fundamental considerations. There the level of the playing field is more supportive, though the retail trader still has to battle with his psychology and discipline.
Would be great to hear the views of others, as this might be somewhat controversial. You are encouraged to comment below this thread!