What factors affect the profitability of an automated trading system? Here is a list of the 10 things in no particular order.
1.聽聽聽聽聽聽System speed: A particular high-frequency trading algorithm may be profitable at high speeds (i.e., at a low mean and narrow the dispersion of decision and messaging times), but not at slower mean speeds or higher standard deviations.
2.聽聽聽聽聽聽Trade selection algorithm: Obviously, having a good trade selection algorithm is important. Trades with favorable, statistically proven, expected payoffs are better. Standard deviation of payoffs should also be considered. However, how to prove these things is another question!
3.聽聽聽聽聽聽Commissions and exchange fees: If a particular high-frequency trading strategy shows an average profit of $1.00 per contract traded and the round turn commission is $1.10, you will have a difficult time making money.
4.聽聽聽聽聽聽Margin rates: The same can be said for margin rates as for commissions and exchange fees.
5.聽聽聽聽聽聽Taxes: Hedge funds seeking a competitive advantage often move offshore to the Cayman Islands or Gibralter to take advantage of opportunities for tax savings. This can make the difference.
6.聽聽聽聽聽聽Order management algorithms: For high-frequency systems trading on exchanges using a first-in/first-out matching algorithm, limit orders are options on queue position. Some exchanges use a pro-rata algorithm for matching orders, which should cause you to think differently about your order management techniques and to what extent they impact success. Optimizing order management algorithms for partial fills and time and volumes can make the difference between success and failure.
7.聽聽聽聽聽聽Efficiency of development: Speed and cost of development impact the long-term success of a system. Since no trading strategy will be successful forever, the faster and cheaper you can get a system up and running the better opportunity you will have over the long term.
8.聽聽聽聽聽聽Efficiency of management: The more efficient markets become, the more cost minimization will become a competitive advantage.
9.聽聽聽聽聽聽Efficiency of redevelopment and improvement: A trading system life can be extended if they are allowed to evolve. Firms that implement a system of continuous improvement will be at a competitive advantage.
10.聽聽Risk management: As with trade selection algorithms, risk management algorithms are an important piece of the success of a trading system. Understanding when it鈥檚 time to shut a system down is also important.
Ariel Silahian
Good article. I’m going through a few of these issues as well..