ALGORITHMIC TRADING

RBT Algo Systems Pvt. Ltd.

Introduction
What is an Algorithm (Algo) ?
An Algorithm is "a set of rules that precisely define a sequence of operations. e.g. calculating employees'
paychecks or printing students' report cards.
Algorithmic trading could be understood as a set of instructions to buy/sell financial instruments e.g.
stocks, bonds, currencies based on pre-defined parameters and upon certain events being invoked.
e.g. Simple Algo - Split an order to buy 5000 shares of ITC into 50 orders of 100 shares each (this is
known as Order Slicing)
Complex Algo Based on P/E sell 5 stocks (Highest P/E) and buy 5 stocks (Lowest P/E) of Nifty 50 stocks.
To hedge positions, buy call / put options for an amount = 10% of exposure to each stock
Start
System

Get
Stock
Prices

If Price
of ACC
< 1000

Buy 100
shares @
price of
1000

Figure: A basic algo to buy when last traded price falls below a specified level

Introduction
So how different are Trading workstations (offered by Retail Brokers) vis-a-vis Algo Trading
Trading workstations allow us to do some basic algorithms such as a Stop Loss order (which also is an algo
if you think about it), Buying a Basket of Nifty stocks, Placing Spread Orders, etc.
However, it ends at that.
If you want to build more sophisticated rules or rules specific to your own trading style and methodology,
which is precisely what you should be doing to improve your trading performance, you can build your own
algorithmic trading system.
So do we re-invent the wheel and build an entire trading system all-over? Not at all.
All algo trading does is interfaces with or talks to the regular trading workstations through API
(Application Programming Interfaces).

Figure: Connection to Oanda (one of the

Forex trading venues) Servers to trade
through APIs provided by Oanda

Rules rule!
Why is it that few traders consistently make money v/s other traders who may be more well-informed
or even having a higher IQ ?
Because trading, as a discipline, has an equal if not more important weightage factor in terms of EQ i.e.
Emotional Quotient
Successful traders do trade on basic rules, and they have strong money management and risk management
principles in place. They do not let their emotions get the better of them, generally speaking.
Algo Trading eliminates the heavy losses that may crop due to periods of emotional upheaval, thereby
enabling the average trader to move up into the rung of successful traders
Algo Trading brings in:Choosing trades based on set rules and eliminating trading on impulse

Prudent Money Management in terms of order sizes and position management

Controlled leverage for appropriate risk management
Ability to scale trading volumes as cost of technology goes down

Do Rules always rule?

Do rules always work, or can gut feel do better.
Trading by the gut can bring in high profitable trades which is difficult if not impossible to completely
replicate through an algo system.
However, this can also result in higher losses and kill you if you are not disciplined.
So in manual trading, sometimes overriding your own rules can work in your favour and you may do better
than your own automated trading system.
And at times, your system may do better than you.
Net net, traders can used algo based trading and allocate money efficiently between manual trading and
automated trading, so that overall results are better than what the trader would have made by only
trading manually

Figure: A tug-of-war may be always going on between You and Your system,
which effectively keeps both at bay

Few areas where Algos are used commonly

Long/Short. Identify mis-pricings and buy with an upside view and sell some with a downside view
based on the premise that each of the stocks will eventually revert to their mean
Market-Neutral. Buy a combination of Calls / Puts / Futures in a specific such ratio and combination such
that the position is overall neutral to the market movements and pays off well on a risk-adjusted basis.

Technical Strategies. Buy where there is a technical break-out such as the 10 day moving average crossing
over the 20 day moving average and likewise short on the reverse side. Combines momentum indicators

VWAP based. Aimed at benchmarking against the Volume Weighted Average Price of the stock for the day,
or for the last half an hour of trading (particularly used on days of derivatives expiry)
Market-making. Simultaneous quoting for both Buying & Selling at a certain bid-ask spread and profit
from temporary demand-supply imbalances which cause prices to move either side in a particular direction

Index Arbitrage. Buy a basket of Index stocks and sell futures or vica-versa to take advantage of basis

Algo Trading Infrastructure setup

Co-Location provides fast

data feeds and improves
execution. The need-forspeed is driving tech
investments towards
algo infrastructure and
re-shaping market microstructure

Figure: Server/Development PC at client end receives Data Feed and connects to Broker infra via the Internet.
Server can also be hosted at Brokers end or at Stock Exchange end (Co-Location) to reduce latency

Reach us at :
52/53, Hi Life, P.M Road
Santacruz (W) Mumbai 400 054.
Tel: +91 9870104332
Email: vivek.gadodia@gmail.com