When it comes to your overall approach to trading in the forex market there are a certain number of choices to go with. For instance, there is mechanical trading which is a form of algorithmic trading. Then there is discretionary trading and system trading.
In previous articles we have discussed the idea of discretionary trading and system trading. In this article we want to focus more on mechanical trading, including what it really is, what are its most important features, its pros and cons, and lastly, how you can implement this approach of trading in the foreign exchange market.
What Is Mechanical Trading?
In general terms, mechanical trading can be categorized to be a form of algorithmic trading or systematic trading that employs a well-designed and precise system of rules and methods to analyze the market and make decisions automatically with regard to executing trades.
While certain approaches to trading are more suitable and adaptable for some financial markets, mechanical trading can pretty much be used in all of them. And when we say more suitable for certain financial markets, a good example here would be the use of high frequency trading or HFT in the stock market and also the crypto market.
But in the case of mechanical trading, as mentioned above, this system of trading can be used in most markets including the forex market.
At the heart of mechanical trading we have quite precise quantitative indices and procedures that can be implemented to go through market data, find out the correct signals, take risk under control, and finally carry out trades.
Naturally, as with any other algorithmic trading method, mechanical trading includes full automatic execution of trades without the swaying of the trade process through human biases.
Recently, with the increased advances that we are witnessing in processing systems including artificial intelligence systems, there has also been a rise in the use of mechanical trading systems. That is why they have become so popular recently. But their usage is not limited to a certain type of market participant.
Mechanical trading systems are applied by almost all market participants, including individual traders and investors, institutional traders, banks, companies, and all the rest.
But what features go into mechanical trading? Let us go through the significant characteristics of mechanical trading in the next section.
Important Features of Mechanical trading
There is of course a lot of incredibly complex details that are involved in mechanical trading. But if we take a laxer approach toward the analysis of this system of trading, we can come up with the following major features:
First, we need to discuss the way in which trade signals are produced. The mechanical trading systems rely on complicated algorithms that can quickly and accurately analyze various aspects of the market. These aspects could include anything from big picture factors that make up the fundamental analysis side of things, all the way to smaller details related to price and trading volume as part of technical analysis.
All these calculations put together will enable mechanical trading methods to provide a very accurate and highly potentially lucrative signal to enter into a trade and exit when necessary.
Second, mechanical trading systems are equipped with powerful and detailed risk management systems and techniques. The risk management apparatus of these systems can be quite extensive. As such, they might include concepts such as calculating the correct position size and stop loss. Depending on the type of market, the mechanical trading method applied can even opt to diversify your portfolio and as the saying goes put your eggs in different baskets to provide further protection for your assets.
Third, is the final carrying out of the trade. Of course, following the proper calculation of the proper signal as to when to enter, how long to hold the position, and when to close, a mechanical trading system will seek out to finish the trade fully automatically and as fast as possible.
These were the main features that go into a general mechanical trading system. There are of course a whole ton of variation in the types of systems and tools, but they do share these features. Now, let’s see the pros and cons of such an approach to trading.
Advantages of Mechanical Trading
The following are the main advantages of mechanical trading:
- Higher accuracy of signals: because complex algorithms are involved in calculating the correct signals of entering and exiting the trade, the resulting signals are usually more accurate than any human based calculation.
- Advanced risk management: there are of course advanced systems and tools of risk management involved in mechanical trading. These systems also owe their accuracy and powerful nature to the algorithmic nature of this method of trading.
- No trace of human biases: an important issue that is always associated with the losses that traders sustain in financial markets has to do with sentimental decision making. Many human factors can impact the way you make decisions in the market. These factors could range from ignorance to anger and even fatigability. But with mechanical trading systems, the machine is in charge and you do not see the trace of these sentimental human errors.
- Highly efficient trading: last but not least, as part of the pros of mechanical trading systems we can mention the incredibly high efficiency with which they execute trades. Not only their speed but also the number of trades. In both terms, what you get with mechanical trading is unmatched by any other system of trading.
Disadvantages of Mechanical Trading
On the other side, there are some cons associated with mechanical trading.
For instance, they require a highly complex and advanced development phase. Of course this development phase has to do with the algorithm that ought to be programmed into the system.
So, they need highly advanced technologies to develop. But not just to develop. They also require these processes to maintain and keep using in the future. These would include technical maintenance and assistance and high speed access to the internet.
How to Use Mechanical Trading in Forex?
As we talked about it above, there are various trading methods that fit into the categories of mechanical trading, system trading, and in general algorithmic trading(AI Trading).
There is not just one type of system that you can use. For this reason, if you go looking for an algorithmic trading system in forex, you will see that there are countless options to choose from.
You need to consider different aspects of these systems before choosing your final trading method.
Always make sure to look at the performance of the system in question and see how it has performed in the past and whether it is verified by reliable sources.
If you are looking for a way to bring in consistent profits and you do not want to sit behind a computer all the time analyzing the market, yourself, then mechanical trading systems are the choice to go with. They offer a way to execute trades in a really fast manner, in a matter of seconds, they also offer a higher degree of efficacy in the execution of trades in addition to advanced risk management tools.