Why using automated trading? #1There are a couple of reasons why to use automated trading, like better risk management, human error, easier to diversify, and Psychology
In this post, the focus is on psychology.
Here are some of the cognitive biases that affect trading:
Loss aversion - the tendency to prefer avoiding losses to acquiring equivalent gains. It feels much worse losing $100 than the joy from earning $100.
(A huge topic, the researchers got the Nobel prize for this)
Sunk cost - the tendency to treat money that already has been committed or spent as more valuable than money that may be spent in the future.
In trading, this effect with loss aversion making people not cut their losses. When we enter a trade we know that a loss can happen, if the losses are not cut the rest of the money in the account can be lost too.
The disposition effect - is an anomaly discovered in behavioral finance. It relates to the tendency of investors to sell assets that have increased in value while keeping assets that have dropped in value. Traders tend to lock in gains and ride losses.
Recency bias - a cognitive bias that favors recent events over historic ones, in trading, a streak of losses can demoralize a trader even if he had a good run for a long time.
I don't know of a system that works 100% of the time.
There are more psychological effects, but those are the main ones.
Using automated trading, allows traders to reduce these effects on trading because the stocks are chosen in advance, the risk is defined, the entry and exit are calculated and executed by the algorithm (Unless rare events are happening).
In the past, I was sometimes afraid of entering a good trade or cut my loss quickly, due to these effects and wishful thinking that the price will do what I want.
