What Is Algorithmic Trading And How Does It Work?

Big hair, Ray Bans, and excess...ah, the 80’s! Gone are the halcyon days of hustling traders verbally duking-it-out and acting like a schoolyard full of hormonal teenage boys. Today, trading consists of Big Data, casual dress, and caffeine. Programs compete on milliseconds for the best execution while playing market games and professional traders hold masters degrees in hard sciences whilst markets fragmented and went dark, thereby increasing their sophistication. Yes, trading is a very different animal from yesteryear and for you Arnuk-and-Saluzzi types as well as newbs, read on see this week’s infograph on how to decode AT...

The data is courtesy of QuantConnect and if you like it, check their out interesting blog.
 

Decoding Wall Street

Questions, comments, or concerns? Put it below.

 

There was a post with a video of quant traders a while back. This is interesting stuff. Always can be argued that intuition always has a place in any industry though.

 
Best Response

interesting. but some disagreements:

-makes it sounds like all algorithms are about "math to find patterns"- a much bigger area is DMA to speed up transactions, disguising trade activity in lit pools, and order routing to find better prices in today's very fragmented stock market. (I pretty sure less than 50% of US equity is traded on NASDAQ or NYSE at this point)

-"75% volume of today's global markets is driven by algos" well 75% of US stocks. Probably around 40% UK. And very little of emerging markets. Obviously some other asset classes are much less suited for algos. due to lack of standardization and liquidity. But that will change I think.

-SAC is NOT an algorithmic trading shop. They are stock pickers (probably insider traders) but they use cookie cutter algos like Credit Suisse's AES for execution as described above like EVERY huge shop these days has to. The industry leader in cutting edge Algos? Was Citadel, probably still is. They famously paid their algo star Mikhail $75MM in 2008 and then he quit because he was insulted. Then he got another $100M + 30k/month to sit on his ass and non-compete for 9 months before staring his rival firm. (As for Rennaissance- nobody knows what they do).

-those quant programs listed are almost 100% USELESS for actually developing algorithmic trading platforms. Algorithms are about - Computer Science and Computer Engineering (Actually- the infrastructure is a bigger cost/time sink than software. People don't realize that. Needs to be constantly updated to compete)

PS- I'm not involved in algos directly, Just what I've picked up because they are pretty ubiquitous at this point.

 

Thank for your all of your comments and I see that there's a couple of questions out there so I'll answer them...

Enchanted Moose:
Are quants slowly replacing research analysts?

The quantitative analysts that are discussed in the infograph are those that have mostly replaced traders working at a desk, on the exchanges, or in the pits. Research analysts work at an IB, MM, or HF and conduct market, industry, and firm research on companies. I can certainly see the possibility of algorithms having a greater role in their analysis but business has a very human side to it and there will at least always be a need to see, touch, and feel the company in a sense. So in my opinion, no.

ReggieB:
I hope this doesn't mean trading is becoming a dying profession

In my opinion, it's not dying but evolving and the traditional WS ways of trading are becoming more accessible to Main Street. However, there are two sides to this. First, check out the hyperlink in the introduction. It goes to Sal Arnuk and Joesph Saluzzi's website for their book, "Broken Markets". They're brokers who talked on Bloomberg radio about on how HFT is eroding the integrity of the markets. So either read it, Google them, or see some of my earlier posts, High Frequency Trading Is Not Breaking The Markets and Why Sales & Trading Is Dead As We Knew It. Second is Chris Stucchio, a software programmer who has blogged about how HFT's actually work [read specifically April 16th to May 28th 2012 posts]. And lastly, if your interested I may have some research studies that were done about the effects of HFT trading as well.

Who Am I? | See what GMngmt is all about at About.Me
 
protectedclass:
If you want some hands on experience, you can download ninjatrader and code your own in C#. I've worked with some day traders and they pay big money for anyone that can write custom scripts.

ie just program their ideas in C#? Are these non-HFT strategies?

 

Algorithmic trading isn't a strategy. Stat-arb is a strategy. Algorithmic trading is just describing how the strategy is implemented. Many algorithmic trading strategies do have descriptions, but if you consider them to all just be "algorithmic trading", then it's easy to get confused into thinking it's a bit more opaque.

 

S&T IN an investment bank (FO).

[quote]The HBS guys have MAD SWAGGER. They frequently wear their class jackets to boston bars, strutting and acting like they own the joint. They just ooze success, confidence, swagger, basically attributes of alpha males.[/quote]
 

WTF

I don't accept sacrifices and I don't make them. ... If ever the pleasure of one has to be bought by the pain of the other, there better be no trade at all. A trade by which one gains and the other loses is a fraud.
 

in general, as with any trading, they are making the market more efficient as long they are making money. otherwise, if they are making the markets less efficient then they would lose money.

to add to tazer they have also reduced transaction costs significantly.

 

could one argue that they are a good thing for technical analyists in some sense? if they both make markets more efficient and reduce transaction costs?

"Hold on a sec...you mean they made all this money without doing IB --> PE --> HBS --> PE --> God? How is this possible?!?!?!!??" - TheKing
 

Oh yes. Its kind of like a domino effect.... take for example the stock exchange crashes. If theres a big enough trade, esp. by a significant player, one algorithm after another will pick it up and trade on it. And then you have the news feeds. I will note however that time delays are usually programmed in.

Not sure how strongly correlated algorithmic trading is with the volatility over the last 2 decades in the indexes though... I was actually thinking about that today... interesting stuff

The difference between the showbiz and finance is that the lights come on when the show ends
 

As long as they aren't hacking to extract and utilize this info then I would definitely say any criminal action against these guys would be equivalent to saying that equities trading is just a casino.

They bought securities that were undervalued so that the price would reflect what they felt was accurate. This should be a clear cut signal to everyone that automated trading systems are not automatic money making machines.

 

Wow,nice job dude.I didn't know about this Quantopian site. My thesis is on trading algorithms and part of the project is to show how it works. +SB

EDIT:Do you have any idea where I should start with Trading Algorithms? Programming language and books?

 

A few books to start with for a basic introduction and general overview is Robert Kissel's The Science of Algorithmic Trading and portfolio management then move on to Optimal Trading Strategies: Quantitative Approaches for Managing Market Impact and Trading Risk.

 

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