

How to identify algorithmic trading strategies - slashdotdash
http://quantstart.com/articles/How-to-Identify-Algorithmic-Trading-Strategies
Discusses methods to identify profitable algorithmic trading strategies and to understand in detail how to find, evaluate and select such systems.
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tokenadult
The obligatory reference for a thread about trading strategies is the
collected works of Nassim Nicholas Taleb.

<http://www.fooledbyrandomness.com/>

<http://www.amazon.com/Nassim-Nicholas-Taleb/e/B000APVZ7W>

Structuring the trades to reduce your exposure to downside risk while
increasing your exposure to upside from unanticipated random events is the
hard strategy to implement, but it is the sole strategy for avoiding a
gambler's ruin.

~~~
kruhft
After reading Taleb's books and thinking about his strategy, it's akin to
buying lottery tickets. Lots of little losses with a large win on infrequent
random events.

It sounds more regal when you say "structure the trades to reduce your
exposure to downside risk while increasing your exposure to upside from
unanticipated random events" though.

~~~
Patient0
Another good phrase: "picking up pennies in front of a steamroller" - which is
when you do the opposite strategy (lots of little gains, but with the risk of
losing it all and more).

~~~
Roboprog
I love this term. One of my friends at work manages trading systems (for use
by actual financial experts) and we were discussing this discredited strategy
recently. It's killed one or two big companies, despite being a Nobel prize
winning idea.

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fennecfoxen
I think the key thing that this piece sort of hints at is that there _is_
money out there, but there isn't _free_ money out there.

If you want to make money trading on the stock market (with algorithms or
otherwise), you're directed to devote time, effort, skill, and a large
quantity of start-up funds to the effort. Of course, you could also devote
time, effort, skill and capital towards starting your own business (based
around algorithms or otherwise) or you could devote time, effort, and skill
towards just getting a job (programming algorithms or otherwise). Likewise, as
there are big players in the stock market, there are big players in any
market, and smaller, more nimble businesses can try and maneuver around them
(or get crushed trying).

The stock market: just a part of real life. Neither a mystical land of
fantastic riches, nor a freakish unholy pit of dishonest vipers and shattered
dreams.

~~~
shogunmike
The trick is to treat quant trading AS a business. You are essentially running
a capitalised startup when you begin quant trading. There is a period of R&D,
building the product (execution system), and then iterating - just like
creating a mobile/web app.

The main difference is that if you're not interested in raising external
capital, then you don't need to do any marketing - all of your focus can be on
the product.

I have made it clear in the article that it is NOT easy, nor a get-rich-quick
scheme which many seem to think it is. It takes a significant amount of work
to generate consistently profitable strategies.

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niggler
The general rule of thumb is that if a trading strategy is successful, you
won't find it in a book. Books are useful for understanding the general
concepts, but I use books in the negative sense (if I find the idea in a book,
I immediately throw it out)

~~~
shogunmike
(Disclaimer: I am the author of the article.)

Consider the case of finding a set of strategies governed by a particular set
of parameters in a book. For instance, the Moving Average lookback period. You
will see authors posting certain strategies, albeit without revealing the
market/time series with which they're carrying them out on or which exact
parameters they use. This is the critical information, but it is also
relatively straightforward to trial/test, assuming you have the available
data.

Also - the same strategy, implemented identically, can be both successful AND
a failure for two different traders with identical starting capital. Why?
Because one may not have the stomach for a 50% drawdown in the equity curve,
despite the fact that had they waited, a "big swing" would have been around
the corner. It is as much about preferences/tolerances as it is about the
actual rule set.

~~~
gknoy
I found your commentary on starting capital and the necessary willingness to
let the algorithm run without interference especially informative. Thank you
for the article!

~~~
shogunmike
It is much harder in practice than in theory to be disciplined enough to do
this! I always remember this great quote (paraphrased):

"A quantitative hedge fund only needs two members in order to be successful. A
quant trader and a dog. The quant trader is there to feed the dog. The dog is
there to make sure the quant trader doesn't touch anything."

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goloxc
Quant trading is like anything - time and effort. You read a few sites, play
with some data, read a few books, test and continually refine your strategies,
learn more and brainstorm of new approaches. It can be pretty fun depending on
who you are. But in the end I think enjoyment comes down to a love of problem
solving, the difference with quant trading is it's financially self-
sustainable and rewarding. Other projects lack the immediate pay-off, but take
my word for it, will be more rewarding in the long run. Stick to your
programming, your research, your show HN.

Also, the first cited site is Ernie Chan's which provides a similar
established perspective

~~~
shogunmike
Having experienced all three, by working as a grad student, as well as in a
quant fund and starting an internet/tech startup, I can say that I gained
enjoyment from all of these roles.

Each experience presented interesting challenges. Quant trading was very
mathematical, academically interesting and presented "big data" issues right
at the start. Tech startups taught me a lot about management, getting things
done (TM) and why you need to have a market BEFORE building a product!
Academia taught me how to really analyse a problem to an extreme degree and
how to quickly find solutions.

Right now I'm enjoying building quant trading systems. To a certain extent
they can be fully automated (although you have to be aware of "alpha decay" -
i.e. strategies losing their profitability over time) and thus it is possible
to have other interests.

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pgroves
Shameless plug for a genetic algorithm based trading strategy app I made a
while ago. It generates a bunch of strategies with good scores and then the UI
let's you pick the one's you actually want to use. The second video is the
demo: [http://designbyrobots.com/2011/09/06/automated-design-of-
tra...](http://designbyrobots.com/2011/09/06/automated-design-of-trading-
strategies/)

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qompiler
Ways to make money in the stock market

\- Own a trading floor

\- Become a stockbroker

\- Become a market maker

\- Sell books on the subject

\- Work for a financial institution

~~~
fennecfoxen
\- Buy S&P500 or similar index fund with low expense ratio, sit back and relax
for 30 years or so while collecting dividends

~~~
bcoates
If you bought the Nikkei within the last 25 years or the S&P within the last
15 you're about as likely to be down as up, even including dividends.

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kfk
In the article I read the following:

 _Despite common perceptions to the contrary, it is actually quite
straightforward to locate profitable trading strategies in the public domain.
Never have trading ideas been more readily available than they are today._

What is the input of the "retail" trader then? Especially considering that at
this level tech does not make a difference (all have access to somehow high
computing power).

By the way, any good backtesting tool in python or R? I started implementing a
simple trading algo last week during my freetime (yeah, I have to go out more)
and I was wondering how will I test it.

~~~
ottbot
Have you seen <https://www.quantopian.com/> ? Might be a good place to start.

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bearmf
There is no such thing as "consistent profitability" in trading. Trading is
not a business where you make a product and sell it to someone, and the more
and better you sell, the more you make. It is much more alike to gambling, but
with probabilities of winning and losing a bet always changing. You need to
know when to bet, but you have no way of knowing the probabilities beforehand.
Thus you cannot be sure that your strategies will keep working tomorrow or a
year from now. Nor can you be sure of always being able to develop a new
strategy that is better than old one.

~~~
sseveran
That is quite incorrect. There are many firms with consistent low volatility
profits. Market makers are a good example.

~~~
bearmf
Market makers are actually an example of "picking up pennies in front of a
steamroller"

~~~
sseveran
That is quite incorrect. Market makers are typically close to flat and are
trading liquid instruments (assuming on exchange MMs like NYSE DMMs). The tail
risk on a short duration trade of an exchange traded instrument is quite
small, especially if the MM is not writing put options which this specific
quote refers to. When writing a put option the premium collected by the writer
is typically not enough to compensate for tail risk. Thus there is limited
upside with extreme downside in the face of a tail event. Also the options
tend of have longer durations (months or years). Firms pursuing this type of
strategy are typically carrying a lot of mispriced risk on their books for a
long time.

~~~
bearmf
It might be true if you are talking about market makers that have an advantage
over other participants due to regulations. However nowadays market making on
liquid instruments is almost equivalent to high frequency trading. The tail
risk might be low if you have very low latency and perfect connection to the
exchange. Anyway your pnl distribution will be negatively skewed. You are
unlikely to lose tons of money like Knight (their testing algorithm kind of
actively tried to do it) but making a steady profit is not easy in liquid
markets.

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graycat
Likely and apparently the unique, unchallenged, world-class, grand champion of
stock market trading is James Simons. So, how'd he do it? Well, first he is a
darned good mathematician.

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jwilliams
Trading trading strategies? Getting a bit meta. The first thing to ask
yourself is if you're a trader - from what I've seen it's a unique trait.

~~~
sageikosa
I would think that would be an interesting prisoner's dilemma gambit. Get
other traders to follow a bad (or better yet: good but sub-optimal) strategy
that has a side effect of making one's own strategy better. Of course if every
trading trader follow this strategy and expects others to be engaging in it as
well, what useful information or strategy will they pursue?

~~~
niggler
One part that's missing here is that a bunch of people following a suboptimal
strategy may have the mass to overwhelm those following an optimal strategy
(but who don't have enough capital to move prices in their direction)

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pixelcort
Another strategy, as we've seen recently with mtgox, is to DDoS a trading
service while placing massive amounts of tiny limit orders on it.

~~~
niggler
Someone discussed it here a while ago:
<https://news.ycombinator.com/item?id=2828804>

"Most platforms slow down when there is an influx of orders into the market.
Some are designed to force events during the process (which allows for action
while prices move, but the prices may be stale) and others are designed to
process all feed messages before forcing an event (which ensure prices are
more up-to-date but doesnt allow you to make a trade earlier) Suppose you are
betting that this represents a market rally or collapse (directional). Then,
you can make money by figuring out the direction of the move (aggressive
processing of the first few messages in a burst) and get involved before every
other system catches up in the feed."

I imagine there isn't much money to be made in doing that on the equities or
futures markets nowadays.

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endofeuro
Try the calculator in this blog to see how easily one can be fooled by random
data: [http://www.priceactionlab.com/Blog/2012/06/fooled-by-
randomn...](http://www.priceactionlab.com/Blog/2012/06/fooled-by-randomness-
through-selection-bias/)

------
pxlpshr
In other words, how to identify yourself as a market parasite.

~~~
minimax
Why do you think prop trading is parasitic?

~~~
Roboprog
Put server in basement of exchange, front run any trades before they actually
happen between the party holding the equity and the one who will leave with it
for the night. How is that _not_ parasitic?

Running algo trading would get me fired so fast. (I work at a mutual fund
company, though not just yet on anything trading related)

~~~
gknoy
My impression (especially given his whole section on frequency of trading) was
that this was NOT about HFT (which you seem to be describing), but rather a
way to choose what to buy/sell and when.

~~~
kasey_junk
He's not describing HFT, he's describing an illegal activity that is not
technically possible on any venue I know of.

~~~
Roboprog
How is HFT materially different than actual front running by a broker? You
might not have individual orders from your own customers in front of you, but
clearly your only interest in an equity is to find activity and sponge off a
few cents by holding shares for a fraction of a second.

HFT is just a legal way to pull almost the same scam.

