The constant battle between Value Investing and Algorithmic Trading.

Thursday, Apr 06 2017 by

Humans have been learning to trade for centuries now. We started with trading goods, services, emotions and money to developing new strategies and formulas that proved their worth in the emerging economy. But the harsh reality is that everything can be replaced, giving rise to the thought if change is the only constant. We came a long way from Paper trading to High Frequency algorithmic trading using supercomputers and complex mathematical strategies. This gives rise to the question that have we really found the key to value investing.

Blinded by the short term profits, we have accepted algorithmic trading as the ultimate conquest ignoring the fact that the greatest investors today are those who had no exposure to such trading methods. The aim of Algorithmic trading is not to make a trading profit but simply to minimise the cost, market impact and risk in execution of an order. The fact that in the US and other developed markets, High Frequency Trading and Algorithmic trading accounts estimated 70% of equities market share is simply overwhelming. This form of high-speed trading rose 12% on the Bombay Stock Exchange, to account for almost 30% of total trades.

With such huge percentage of people actually believing in the new generation trading method, I believe that we all have missed one minor detail “Change is the only constant”. On May 6, 2010, the trillion-dollar US stock market experienced one of the biggest crash or the Flash Crash that lasted for approximately 36 minutes. The DJIA had its biggest intraday point drop up to that point, plunging 998.5 points within minutes. We may have recovered well from that crash but the bigger question still remains that are we really evolving in this method of trading and reducing the risks or are we just on a trial and error spree. 

Value investing is an investment strategy where stocks are selected that trade for less than their intrinsic values. Value investors actively seek stocks they believe the market has undervalued. Algorithmic trading involves use of such complex strategies to large number of ETFs that a huge amount of liquidity is created therein. We must understand that this not only does not reduce the risk associated but also expose the market to increasing volatility. Sometimes this type of trading style sets the price index so vague that the market reacts to the unexpected…

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About Karan Raina

Karan Raina

Learner and enthusiast: Quantitative Finance.

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