Trade Ideas Blog

How the Rubberband Man Improved Automated Trading

Dec 21, 2007

Market Orders?!

Automated trading functionality introduced by Trade-Ideas only had market orders for initiating and covering positions. Market orders?! The first version of the software was more proof of concept than anything else. That’s why the ones using it were kept to a bare minimum.

Much is about to change. After analyzing trader feedback and internal data of the automation’s performance compared to the OddsMaker event back-tested results, it was clear that in order to take advantage of the most potent strategies, we had to implement limit orders.

The Goods on ‘Mean Reversion’: The Rubber Band Man
As it turns out the most profitable strategies in the recent markets are ones known as “Mean Reversion”. Think of this style of strategy as the opposite of momentum trend strategies. Mean Reversion strategies look for stocks trading significantly beyond their mean (average price range) and look to capitalize on the “snap” back – picture a rubber band and you’ll understand.
However when we compared the results of the OddsMaker event back-test to the actual results we saw that there was a considerable amount of slippage – we couldn’t get the prices that the OddsMaker said we could. We looked to find out why and discovered an interesting if not common behavior.
When a stock triggers an event that warrants a mean reversion buy or short the spread at the time of the event is usually larger than normal.
Sending market orders to take offers or hit bids was causing these traders to lose too much money on the entry to make the strategy profitable.

Enter the limit orders and limit +/- Delta

This addition allows our traders to let the momentum of the extended trades to come to them and have then not be worried on losing a lot of money on wide spread stocks. What was once a danger is now an opportunity.
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