Forex robots and how they work.
In essence, there are two ways Forex traders can approach trading: they can either decide to analyse the market and trade on their own, or they can go with the increasingly popular Forex trading robots that do all the hard work for you and place trades automatically. But, are they really a profitable substitution to trades hand-picked by experienced Forex traders? Let’s find out.
What is a Forex trading robot?
A Forex trading robot is a simple (or complicated) computer program that analyses the market through various mathematical algorithms, connects with your trading platform and opens, manages, and closes trades automatically. All you have to do is install them to your trading platform as an add-on, and you’re done.
Forex robots continuously follow the market and include each new price tick in their calculation to find a trading opportunity. Once the results of their calculations show that it’s a good time to buy or sell a currency pair, the Forex robot will send a signal to your trading platform to open the trade and keep it open until the price hints that the setup is no longer valid. That’s when the robot will close the position, ideally leaving you with a profit.
There are virtually thousands of trading robots that can be found online. While some of them are free of charge, there are also many robots that need to be purchased. They usually come in the form of an EA (Expert Advisor), which are then copied in your MetaTrader’s installation folder and the next time you open your platform, you’ll see the robot (EA) listed in your platform’s navigator window.
As previously mentioned, Forex robots usually rely on purely mechanical rules to find a tradeable setup. In the following lines, we’ll dig deeper into the construction of a Forex bot and mention some advantages and drawbacks of trading using robots instead of trading on your own.
Trading robots rely on mechanical rules.
One of the main characteristics of Forex trading robots is that they rely on mathematical algorithms to find a trade setup. To do so, many Forex robots incorporate various technical indicators which are then used to decide whether to buy or sell a currency pair.
Popular technical indicators used in the programming of Forex robots include moving averages, oscillators and trend-following indicators. For example, a very simple trading robot may initiate a buy signal if a 100-period moving average crosses a 200-period moving average from the downside. Sound familiar? Yes, this is a popular MA strategy called the MA crossover. What the Forex robot does is simply automate the process of following when a moving average cross happens, across many different currency pairs. For sure, this has many advantages compared to manually looking for an MA cross, but the ultimate trading performance is only as good as the MA crossover strategy can be – whether executed manually or automatically.
Another example of a Forex bot is the usage of the Average Directional Movement Index. A Forex robot can be programmed to open a long position only when the ADX indicator shows that the current trend is up, or to open a short position only when the ADX indicator shows that the current trend is down.
Since the ADX indicator usually lags the price (just like most other technical indicators), the Forex robot may open the trade when the initial price movement is already completed, leaving you either with a small profit or a loss if the price reverses. The following chart shows a simple mechanical trading rule which can be programmed into a Forex robot, using the ADX indicator to open trades.
Mechanical trading rules usually work only during certain trading conditions. A trend-following robot would have a difficult time generating profits in range-bound markets, while a robot that trades support and resistance levels will likely disappoint in strongly trending markets. While more complicated robots take into account the current market environment, their performance is still tamed by existing limitations of mechanical trading rules.
How to evaluate a Forex trading robot.
Since Forex trading robots are basically EAs, they can easily be back-tested using the MetaTrader platform. Many Forex bot providers have already done that, so you can pick the one that suits your trading goals. Metrics that one needs to consider are profitability, profit ratio, winning ratio, and maximum drawdown, as these are the most important metrics that are used in the evaluation of any trading strategy.
If you’re using the MetaTrader platform, you can check a Forex robot’s performance by clicking on the Signals tab inside the Terminal window and selecting a bot. This will open a window like the one shown in the following picture.
You can check the robot’s growth rate, net profit, number of subscribers, as well as the subscriber’s funds, maximum drawdown, trades per week, average holding time, and more. Make sure to make your analysis if you want to employ an automated Forex robot to trade for you, as you want it to make the right trading decisions and return a profit.
How to use Forex trading robots.
By now, you know what a Forex trading robot is, how it works, and how to evaluate its performance. Now it’s time to explain how to make the most out of the Forex trading bot, by taking into account the way it makes its trading decisions.
The most important rule is to use a trading robot only during certain market conditions for which the robot is programmed. Just like with an airplane, the pilot will manually perform the take-off and landing procedures, and fly on auto-pilot only once everything works fine and the airplane is in the air. Similar to this analogy, you shouldn’t use a trading robot during market disruptions and important macro-releases (unless the robot is programmed specifically to trade macro-releases). In addition, don’t use a trend-following robot when the market is ranging, and vice-versa.
Knowing the market conditions during which your robot returns the best results is mandatory, so you can employ them only in times when their profitability is the highest. You can also use several robots with different trading strategies and use them according to the current market environment. This way, you’ll make the most out of the trading robots.
Advantages and drawbacks of trading robots.
Trading with Forex robots has both its advantages and drawbacks. The most notable advantage is that the robot is programmed to do all the hard work for you. It will analyse the market using its algorithms and automatically open, manage, and close the trades for you. The drawbacks of using Forex robots are closely related to its advantages: Can a robot really be profitable, and can the markets be successfully analysed and traded according to mechanical rules?
Here are the most obvious pros and cons of Forex robots:
1) Pro: automated trading – Simply run your Forex robot and you’re done. It will trade for you, and you only need to watch your trading account growing (hypothetically). Automated trading is the most significant advantage of robots, as it prevents emotional trading and you have more free time to spend on other things.
2) Con: mechanical trading doesn’t always work – This is the main disadvantage. Markets cannot really be traded using mechanical rules all the time. Large market disruptions, unexpected events, and changes in risk sentiment and in market conditions can all cause a profitable robot to become unprofitable. This can be partly offset by using multiple robots for various market conditions, but hand-picked trades from experienced traders will likely beat any robot’s performance.
3) Con: risk and loss management – A robot will open a trade whenever its algorithm says so. Even if you wouldn’t take the trade in manual trading, a robot has no common sense and simply follows orders. While some robots have advanced risk management rules, programming common sense is still not possible, which can lead to losses which could have been avoided otherwise.
Conclusion.
Forex trading robots are computer programs that can be utilised as add-ons to your trading platform. They use mechanical trading rules to analyse the market and open, manage, and close trades automatically. While this may sound like the Holy Grail of trading, you need to be aware that robots have their limitations, which prevent them from being profitable all of the time.
This is not to say that you shouldn’t use robots. Trend-following robots will do extremely well in a trending market, and robots that are programmed for ranging markets will be profitable in range bound markets. Still, you need to take an active role in determining current market conditions and switch between various robots to make the most of them.
Also, don’t forget to evaluate a robot’s performance before you utilise it in trading. Key metrics such as profitability, growth rate, maximum drawdown, winning ratio, and net profits need to be taken into consideration when choosing the best Forex robot for you. By following these rules and being aware of the advantages and drawbacks of Forex trading robots, you can start to enjoy the profits that come with automated Forex trading.