Getting Starting With Systematic Trading

Systematic trading is a popular and potentially profitable way to trade a variety of markets, including stocks, futures, and foreign exchange. In systematic trading, a trading system generates buy and sell signals using a predefined set of trading rules. In many cases, the trading system can be automated so that it will automatically execute the buy and sell orders through a brokerage. The basic steps to getting started with systematic trading are presented below.

Step 1. Setting up your hardware. Most trading systems are designed to run on a Windows platform. While it may not be necessary to have a dedicated machine to run the trading system(s), the computer should be fairly recent, preferably running Windows 7. Almost any new desktop computer will have sufficient memory, speed, and disk space for trading. Perhaps more important than the computer is having reliable, high speed internet access, particularly if your focus is day trading, where fast order execution is important.

Step 2. Choosing the market. Systematic trading techniques can be successfully applied to a variety of markets, such as stocks, ETFs, futures (e.g., E-mini S&P 500), foreign exchange (“forex”), options, etc. Each market has its own characteristics, advantages and drawbacks. Different markets, such as futures, may require a different brokerage account than stocks or forex.

Step 3. Decide on your trading style. Trading styles can be characterized in terms of the time period (day trading, short-term (swing trading), longer-term), trend versus counter-trend, single market versus portfolio, etc. Day trading is often attractive because exiting positions prior to the close tends to limit risk. However, profitable day trading strategies can be more difficult to find, and higher-frequency trading tends to be more stressful for many people.

Step 4. Select a trading platform and broker. Some trading platforms are provided by brokerages, while others allow connections to a variety of brokers. The key to platform selection is that the platform must be able to run trading strategies or systems. Some of the more popular platforms for systematic trading include TradeStation, Ninja Trader, Trade Navigator, eSignal, MultiCharts, AmiBroker, and MetaTrader (forex). If you’ve already selected a trading strategy (step 5), this may dictate your choice of platform as most trading systems are available for a limited number of different platforms.

Step 5. The strategy. For those who have the inclination, building your own strategy can be a good choice. Otherwise, a strategy can be purchased from a system vendor. Building a trading strategy can be a long, trial-and-error process and typically involves programming in the scripting language supported by your trading platform. Whether developed or purchased, careful testing is required to fully understand the characteristics of the strategy and to verify its profitability.

Step 6. Fund your brokerage account. Some brokerages, particularly forex brokerages, allow small minimum starting account sizes. While it’s prudent to start small, it’s necessary to have sufficient funds to cover more than the expected largest drawdown from your trading system. This is where a good, detailed analysis of your trading system’s performance is crucial in order to understand the kind of losses you can expect when the system is in a so-called drawdown period. Just like with small businesses, underfunding is one of largest contributors to failure. If you don’t have sufficient risk capital to adequately fund your account, it’s better to wait until you do than to risk trading an underfunded account.

Step 7. Simulated trading. Before putting real money at risk in the markets, it’s a good idea to take advantage of your trading platform’s trading simulator, if available. This kind of “paper trading” will give you a good idea of what to expect from your trading system in a real time (though simulated) environment.

Step 8. Go live. If the simulated trading goes well, it’s time to start trading with real money. As mentioned above, it’s prudent to start small in order to limit your risk while you learn what to expect from the process. If you’re automating the order execution, it’s a good idea to follow the system at least initially while it executes to make sure the automation is set up correctly. While some traders no doubt use automated order execution to trade their strategies while they’re away from the computer, leaving a trading system unmonitored can be risky. There is always a chance that something could go wrong during the trading day that might require human intervention, such as a disruption in internet connectivity.

Step 9. Monitor your trading. Because the financial markets are constantly evolving, even the best trading systems eventually stop performing. This means it’s necessary to monitor your trading performance. For example, if the drawdown in your account is larger than the maximum historical drawdown from the trading system, it may be necessary to stop trading the strategy. In some cases, an under-performing strategy can be modified to bring it back in line with the market. In other cases, it may be better to switch to a different trading system.


Reprinted with permission Michael Bryant (