The cryptocurrency market has seen tremendous growth in the past few years. Digital currencies are now accepted for transactions more than ever before. Different countries are now looking in the direction of digital currencies to examine its feasibility as the future of today’s currency.
People now freely use bitcoin and other digital currencies as a viable means of carrying out trades. At first, exchanges allow traditional trade with the currency. Later the innovativeness of trading bots was introduced into the scene. Now the new baby on the block is the High-frequency Trading system.
What is High-Frequency Trading?
The term high-frequency trading has to do with speed, that is, the speed of transactions. It refers to the use of algorithmic trading programs. This system makes high-speed trading possible for investors in an automated pattern. Proprietary companies and hedge funds are among groups that make use of this form of trade the most but it is gradually opening up for individual traders in recent times.
High-frequency trade (HFT) is the trading that utilizes the benefits of colocation in trade. By this, it means the client’s server is put in the same location, facility or cloud-like that of the exchange.
High-frequency trade is enabled by the closeness of the servers and allows investors to carry out their trades at a much higher speed than normal. It is oftentimes a hundred times faster than the rest of the traders in the market who are not operating on HFT. This puts them far ahead and an edge over the market.
This trend of trade, though used in the traditional markets, has increasingly grown in the digital currency world. Some reputable digital exchanges have joined in this new way of carrying out a trade.
Imagine you have your server placed side by side with the server of your trading exchange. The proximity of the systems makes the execution of trades as quickly as possible in split seconds compared to other traders who have their servers far off.
For many of the exchanges that utilize this possibility, they barely charge anything extra. At least for now maybe they will in time to come; only time will tell. They do this freely to have an edge over other exchanges instead t gain more patronage. The competitive advantage they offer is the motive for this service.
The Controversy Behind High-frequency Trading
Until recently, high-frequency trade remains limited in the cryptocurrency market and has been a longtime controversy as a trading option for some reasons. The crypto environment is gradually embracing this form of trade after it has successfully added the use of bots for trades. Colocation brings something new to algorithmic trading in a new way.
The Flash Boys, a book by Michael Lewis explains it all. According to the author, algorithmic traders have their servers physically installed in the premises of exchanges to implement trades much quicker than that of other investors who are also in the same market and earn more profits through arbitrage in a matter of seconds between markets.
The unfair advantage is the bone of contention here according to the author. He adds that high-frequency trade is a market where a few traders can execute their trades much faster than ordinary users. It is quite unfair by leaving the non-algorithmic traders with only a lower-priced option in the market. It is like eating the crumbs that fell from the table.
Yet another problem observed on high-frequency trade can be drawn from the International Organization of Securities Commissions (IOSCO) report of 2011. The report hinted that high-frequency trade can raise volatility in the markets.
May 6, 2010, Flash Crash, was a typical case where high-frequency trade is seen to be partly responsible for that situation when securities in the US market experienced a drastic crash and bounced back again in a matter of minutes. This exposes the ordinary trader to a very high risk which they can hardly manage.
Many stakeholders think that it is coming too early for the digital currency world to be on the level of providing collocation trading services to high-frequency trading companies. Owing to the currently growing stage of the digital currency market, it is difficult to measure equity about the high-frequency trade.
It is much still not relevant to have high-frequency trade in the crypto market.
Trading HFT with Bots
Bots are streamlined, programmable systems that monitor and share data, respond to queries, and execute them. The use of bots in buying and selling can offer traders more space and flexibility to other projects, decrease user error, and enable faster processing of information to assist traders to boost profit margins.
Many of today’s cryptocurrency bots offer to do most of the user’s job. These programs track prices and currency exchange, send user alerts for pattern currencies and volumes of trading, perform trading, and more.
Traders can install bots to purchase and sell a digital currency such as Bitcoin or Ethereum, for instance. These bots can conform to a set of rules scheduled for buying less from one exchange and selling higher in other exchanges, gaining revenue on the difference. If you’ve used an exchange, you may have found bots doing this.
In the extremely volatile and rapidly expanding crypto markets, the benefits of using bots cannot be understated. Market shifts occur so quickly that investors risk missing a lot of money if traders don’t pay attention.
Traders must continue to monitor present market dynamics and activity to produce revenue from crypto transactions so that they can respond when an opportunity offers itself. Bots can assist to maintain traders performance as it uses up-to-date data.
Think of these bots for cryptocurrency updates as a sort of news feed or RSS. This is partly why we also see the boom in chat and trading bots affecting trading in cryptocurrency.
Moreover, these algorithmic trading systems and bots provide a broad variety of investment strategies for investors. Below we’ll look at just how bots can assist with trading and marketing arbitration.
How Trading Bots Works
Trading bots operate through market reaction. It collects the information it requires to carry out a trade based on the trading platform assessment. The trading platform, however, only tells half of the story with cryptocurrency, with many increases and decreases based on certain sources that cannot be designed into the bot for evaluation.
Moreover, as stated above, the distribution between the exchanges has somewhat blurred, which means that the possibilities for inter-exchange arbitration are much smaller than in past years.
Several trading bots use what is recognized as an optimal daily average (EMA) as a point of departure for market analysis. Over a fixed period, EMA’s track market prices and bots could be programmed to respond to what cost such as shifting beyond certain thresholds.
Traders can put their thresholds to match their risk level by coding the bots. However, one of EMA’s downsides is that it is based on personal history, which is not predictive of future results, as all traders will understand, particularly in the cryptocurrency sector where volatility is rampant.
Therefore, the question as to whether trading bots function is a custom-faceted one in which the answer to the problem is that they work for everyone, but not necessarily.
Kinds of Trading Bot Techniques
Even though the crypto market is far less advanced than other capital markets, the electronic nature of the market meant that, despite the reality that it had considerably less time to incorporate automated trading, the technology did not slowly catch up with its competitors in terms of offering a trading bot service, enabling investors to gain access to it.
As cryptocurrency exchanges have been decentralized, there have often been big differences between rates provided on different exchanges, which means that profits can be made through arbitration.
One of the main methods that traders used to create earnings in the early stages of cryptocurrency trading was arbitration, that is, purchasing shares in one market and later selling them in another at a greater cost, thus gaining profit based on favorable difference.
As digital currency exchanges have been decentralized, there have often been big differences between rates provided on different exchanges, which means that profits can be made via arbitration.
Although there is a much lower spread between exchanges now, they still occur from time to time and trading bots can help consumers make the most of these differentials. Furthermore, arbitrage can also be used by traders seeking to include futures contracts in their trading policies by taking advantage of any distinction between a futures contract and its current value.
Trading bots may also allow the market making approach to be used by investors. To implement market-making policies, it includes both buying and selling limit orders close to the current market place.
As prices fluctuate, to profit from both the spread, the trading bot can automatically and consistently place limit orders.
Although it may be lucrative at certain times, it may be unprofitable, particularly in low liquidity settings, due to intense rivalry around this approach.
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