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Why invest using bots? A Beginners Guide

· 3 min read
Sarah Vetter

Why is everyone talking about trading bots? What is the hype all about? Dive into the world of automated trading and uncover the secrets behind their growing popularity. From understanding the essence of trading bots to exploring their benefits and potential pitfals - we will uncover it in this blog!

What are trading bots and how do they work?

Trading bots are computer programs which are designed to automatically execute trades in financial markets based on predefined rules and parameters. They are also known as virtual robots (bots). The concept of trading with bots is also known as "algorithmic trading", "algo trading" or "high-frequency trading".

There are two types of bots in the context of trading:

  1. Executing: Trading bots that interact with cryptocurrency exchanges through an API to automatically execute send buy, sell or stop-loss orders; or
  2. Notifying: Algorithms that generate signals for human traders to act on manually.

Executing bots are typically built to analyze market data, identify opportunities, and execute trades without needing human intervention. Their speed is only limited by the speed of the underlying technology and infrastructure.

Notifying bots are built to notify a human when certain conditions are met, however the bot itself does not take any action.

For the rest of the article, we will focus on the executing bots.

What are the Benefits of Investing with Trading Bots?

Advantages of trading bots are:

  • Objectivity: Trading bots have become popular among professional traders and organizations because they eliminate emotional biases that can occur in manual trading. Emotions such as fear, joy, sadness, and greed can influence decision-making. Bots operate on predefined parameters and selected datapoints with data-driven decision making.

  • Speed and Efficiency: Trading algorithms can execute trades more swiftly than manual trades and react to changes in the market quickly. This can be critical especially in fast paced markets where every second counts. On top of that they can operate 24/7.

  • Strategic: Trading bots can employ an array of strategies. These strategies an range from simple moving average to more advanced algorithms that consider numerous indicators and market conditions. Bots can be used in a variety of markets such as stocks, cryptocurrencies, and commodities. At the same time, they can monitor a variety of data sources at the same time. At Finterion we currently focus our support on cryptocurrencies.

  • Backtesting and Optimization: Trading algorithms can be backtested with historical data. This allows investors to evaluate their effectiveness based on past data and allows bot developers to make changes as needed to optimize the algorithm over time.

What are Potential Risks and Limitations of Trading Bots?

Trading bots have limitations in their capabilities and accuracy. As such, they require technical and analytical skills to be developed and maintained. They can be vulnerable to security gaps, malfunctions, misconfigurations, and manipulation, which can result in losses or missed opportunities. Bots can be affected by market volatility, and manipulated, causing them to deviate from their expected behavior. They can lack adaptability, intuition and creativity which can limit their ability to cope with complex and changing market conditions. Bots are often built based on historical market conditions and therefore may not perform well under unprecedented market conditions.

Therefore, bots need constant monitoring and adjustment to remain effective and profitable. Furthermore, one should always ensure to follow local regulations to ensure compliant use.

Automated trading is legal in most countries. We recommend you confirm with your local authorities as well as your cryptocurrency broker before leveraging automated trading.

Note that tax implications may apply.