The Securities and Exchange Board of India recently came out with a consultation paper to open up a new trading tool for retail investors — Algo trading.
Algorithm trading or algo trading provides significant advantages of timed and programmed order execution. At present, there are mechanisms such as Direct Market Access Facility, which enable institutional investors to trade through algorithms.
Speed, precision
So, algo trading offers speed, precision, reduced human error and the ability to execute complex strategies. Besides, algo can also be deployed simultaneously in multiple markets across timeframes.
Algorithmic trading is nothing but any type of automated rule-based trading where decision-making is delegated to a computer model. The model will analyse various sets of market data (such as trading volume, volume-weighted average price, time-weighted average price, arbitrage opportunity, trend-following and news sentiment, among others) to pick up trading signals and execute trades automatically.
Types of Algo
Currently, there are various types of algo trading systems, including high frequency trading (a type of algorithmic trading that is latency-sensitive, where large numbers of trades are executed within very short timeframes to take advantage of small price discrepancies), index rebalancing (executed ahead of changes in the benchmark indices), trend-following (picking up stock/sector that is likely to trend), zero-touch algos, (identifying the trading opportunity and executing it without manual intervention), etc.
“There has been an increasing demand for algo trading by retail investors. To facilitate participation of retail investors in algo trading, it has been decided to review and refine the existing regulatory framework to ensure proper checks and balance, to safeguard investor interest as well as integrity of the market,” SEBI said.
Badly bruised
The regulator’s proposal has to be viewed in the backdrop of its recent studies on retail investors’ trading behaviour. According to it, 9 out of 10 individual traders in the equity futures and options (F&O) segment continue to incur significant losses. Most of the profits were generated by larger entities that used trading algorithms, with 97 per cent of FPI profits and 96 per cent of proprietary trader profits coming from algorithmic trading, the study further revealed. The aggregate losses of individual traders exceeded ₹1.8 lakh crore over the three-year period between FY22 and FY24. The regulator also found that more than 70 per cent (7 out of 10) of individual intraday traders in equity cash segment have incurred losses in FY 2022-23.
Levelling the field
According to SEBI’s current norms, brokers need the approval of exchanges to offer algo trading. They need to inform exchanges about the algo strategy and any changes to them.
All algo orders must be routed through broker servers located in India. Also, all algo orders must be tagged with a unique identifier provided by the stock exchange in order to establish an audit trail. This allows the exchange to know if an order is an algorithmic one or non-algorithmic.
There are various players currently offering algo trading for retail investors. Prominent among them are Tradetron, Zerodha Streak, uTrade Algos, AlgoTest , QuantMan, Algobulls, Quantiply, AlgoMojo, Robomatic, Robo Trader, Ninja Trader and Metatrader, Narnolia, etc.
However, this time they will have direct market accessing, like FPIs/proprietary traders, meaning exposure to co-location server that will enable for them faster trade.
So, in that sense, allowing retail investors to explore algo trading via DMI is a welcome one. This will give a ‘perceived’ level playing field for retail investors.
However, will algo trade help retail investors cut losses if not making profits?
Play it safe
It is very difficult for any individual traders to make money in intra-day or short-term trading. Powerful traders will always use a better tool than what is available to the individual in this zero-sum game.
So, it is better to concentrate on long-term investing, especially new investors; index funds are the best products that can be explored. Besides, moderating expectation on market returns will protect them from turning greedy.
Algo-hungry traders can even consider quant funds, which predominantly use AI for picking stocks. However, the risk in this category will be higher.
