Myths and Truths of the Algorithmic Trading Business.



"You have brains in your head. You have feet in your shoes. You can steer yourself any direction you choose."

Dr. Seuss

 

Today’s post would be about the most important myths and truths of nowadays algorithmic trading industry viewing things from a retailer’s side angle. According to our humble opinion, any person before adopts this way of trading the financial markets needs to be aware of their environment and the current “trends” which are prevailing. Yet, most importantly, is for someone to be well informed about the “pros & cons” of this business, which had become enormous especially during the last three years.

 

First of all, let us start by defining the context: it is informative and of course, whatever it will be expanded here represents our point of view and that doesn’t mean that has some universal acceptance or claim of authenticity. We know that this may sound like a “disclaimer” yet it isn’t. On the contrary, all that means is that everyone has its right to his opinion and most of all the right and the obligation to doubt any kind of “law”, “theory” or “evidence” using his own experience, knowledge, and critical mind.


But what exactly is “algorithmic trading”? it’s a way of trading the financial markets, which is purely mechanical. No human intervention. No discretionary decisions. Iron made rules, written to an advanced computer language in the form of a computer program, and executed by the computer itself. Every decision about buying, selling, or doing nothing, is taken according to a series of algorithms which in their turn represent nothing more than a recipe. In other words, it’s just a predefined plan (used to be called as “system” or “strategy”), and the reason for its existence is its job: “to extract profits from the markets, without any kind of human intervention to its decisions’ making process and execution of them”. This last sentence could make for a laconic yet an accurate definition of algorithmic trading.


Now, what about the term “business”? Well, it has to do with all involved parties who are trying to produce income from that particular approach to financial trading. And that doesn’t mean only the traders, it contains everyone who is a part of the industry (or tries to be), for example, developers, vendors, trading platforms, brokers, “gurus”, publishers, authors, and of course salespeople or marketers. Since we know by now, what we’re going to “talk” about, let us proceed with our main theme and go directly to its core:


So, what about if someone told you that for a relative “pitiful” amount of money you’d be able to be financially independent or even filthy rich for the rest of your life? And what about if this person supported that with evidence, like graphs, statistics, impressively illustrated “what if you did that” slides and every other kind of well-grounded (well… sometimes) marketing material?


Of course, at the moment that you read this, this salesman’s presentations sound a bit…of a “scam”, but then again aren’t we surrounded in our every day lives with similar things which many times we would love them to be true? Like all the tv-commercials or more the telemarketing stuff, which present books about the “real” extra-terrestrial activity in our planet, exercise equipment that will transform your body to a Mr. Olympian level of body aesthetics with just a 10 minutes work out per day, or the magic night cream that will make you look like a 30-year-old woman instead of the mid-late fifties that your true age is.


Everyone has the right to dream at one point or another of our timeline, and especially nowadays which are characterized by fear, loneliness, and financial insecurity. Yet, we need to be cautious not to be awakened in a nightmare because of our dreaming.


Both parties here, us that we’re writing these lines and you that you’re reading them, knows well that effort is needed for everything and some times even the hardest effort is not enough for someone to achieve his/her goals. Since some kind of minimal effort is needed to have a glass of cold water, (you need to go to your freezer) how about the kind of effort that will be needed to make you financially independent without reporting any kind of a boss, and in fact to anyone? To be free to live in whatever place you want and with any kind of lifestyle you’re craving for? Summer vacations, partying to an exotic beach, while beautiful bikini dressed young ladies’ parade in front of your vision’s origin? Winter vacations in Aspen, Colorado, or Saint Moritz, Switzerland? We guess that the answer to all previous is: “a hell of a lot”.


At this point let us combine what exactly algorithmic trading is and the state of human happiness -at least its materialistic part-as described above: So, using a computer program which somehow can make correct investment decisions overtime via trading the financial markets of the planet, without you doing nothing before or during this. Plus, the cost of purchasing it and put it to work so your profits will start pilling up, is less than of a couple of hundred dollars (or euros if you are unfortunate enough to live in a country of the so-called “Eurozone”). What a deal, huh? How all that sound to you, now? A Myth (putting it with carefully used words).


What is not a myth but reality (truth) is the following: Algorithmic Trading business is the new landscape of hope for people that are willing to take risks. As California was back in the 19th century for the gold diggers and the immigrants from the east part of the planet, “the road to the far-west”, or the Athens Stock Exchange for a nation’s middle class back in the late ’90s, with the harsh entering to the new millennia, destroying this “dream” and waking up people in a financial…nightmare with no realistic chance of escaping ever.


Most of the people in all those different time areas lost their fortunes, or even their lives trying to get to the paradise of “far-west”. Took risks of all their savings and some of the cases even leveraging(!) their investments (their dreams), by taking loans from banks to buy more stocks and trade. Of course, and when you believe in something or someone, you give everything you have for that cause. But let’s take a long pause at this point and ask ourselves: “is it worth it? And if it is, what are the risks of failing, and what will happen if we fail?”


However, there were certain people, a very small minority of the whole population, who succeeded exploiting each time area, and its “special” circumstances. And they will always be, because of the nature of randomness which rules our world. The governmental normal distribution has always two “tails”, no matter how “fat” or “thin” or are:


Graph I: Picture of a Normal Distribution of Events, aka the “Bell Curve”.


OK, don’t be scared: we didn’t get crazy and we won’t continue this post by “throwing” equations and sketches ie.g., of quantum mechanics. What the above picture is all about is a graphical representation of how often an event θ occurred with values between -π and π, with the number 0 as the average value that the event θ has taken, and its deviation around this value, which we denote with the symbol σ. In other words, how many times the event or variable θ, had occurred with different certain values around its average value 0.


Let us connect the above “strange-looking” picture with our case here: so let’s denote with the variable θ the times which a person with putting no effort achieved something different than zero, in other words, who achieved something else than nothing. We bet (again), that everything we say starts making sense to you, now. Mathematics is the easiest way to prove your opinion with scrutiny. And we just did.


To conclude: there are slight or even infinitesimal small chances for any person in this world of achieving his/her targets without putting any effort or have a cost / pay a price equivalently high with the value of his/her dream. The opposite case is very rare to the point that very very few in numbers people did that. And this event is so unique that is touching the notion of a “Myth”.


You ain’t going to win a lot of money from the markets with just a couple of hundred dollars cost, my friends. And if you do, you will be such a unique case that will automatically justify the rule. And what is that “rule”? nothing else but the universal law of effort to reward. Effort or cost of previously hard-earned recourses (money), will be needed as prerequisites for your dream to become reality.


That is the “truth” about the Algorithmic Trading Business, as any other economic endeavor in our lives, or like any other business that people do to make a living. Hence, do not be lured by fancy marketing presentations or even close to idiotic aggressive sales methods. Do not believe that by paying a few euros will get the “secret” or the “magic formula” that will work as a money machine for you. Or do not even think that without spending countless hours in front of your PC screen, trading tens of thousands of hours over many years, and reading books and be exposed to sciences like statistics and computer science, and of course financial economics, will get you any chance to compete with the professionals of this field.


If you are not willing to put your money or sacrificing about 3-4 years of your life, committed learning by yourself, and spending recourses which you may use in something else, don’t even dream that your financial freedom is even close. Unless you feel so lucky to be a “spot” so far away from the mean of the above graph, in other words, to be so special and unique that you have 100% chance to win the jackpot. A fact that it doesn’t seem so realistic, does it?


Unless…you’re feeling lucky. Do you feel lucky enough? We did not.


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