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Cryptocurrency Trading Bots – Facts vs. Fiction

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Marketing Specialist

Last updated June 26, 2020

Having a crypto trading bot that can bring you a profit while you relax on the beach with a margarita in hand sounds like the way to go. Whether you’re trading stocks or cryptocurrencies, a software that does everything for you almost sounds too good to be true.

And it kind of is.

However, classifying every single trading bot as a scam is unfair. There are actually some legit providers that will give you a piece of software that can help automate your trading

But at the end of the day, even the most expensive, most professional, premium trading bot you can acquire is only as good as your trading strategy.

Let’s see why.

What are trading bots?

First of all, regardless of trading stocks, collectibles, or cryptocurrency, a trading bot is a software. You install it on a computer and set it to trade assets on your behalf while you’re away from your computer.

As a trader, you have to provide the trading bot with trading parameters and a strategy It can execute to trade faster and more accurately. 

Furthermore, a trading bot software can use more than one bot to track and trade several assets at the same time. The practical side of it is that you don’t have to follow countless screens at the same time to catch as many market opportunities as possible.

How does a cryptocurrency trading bot work?

how does a crypto trading bot work

There is no exact bound to one programming language when it comes to building trading bots. A cryptocurrency trading bot can be developed using C/C++, Python, or even MATLAB. However, the type of algorithmic strategy, frequency, and volume employed will have a substantial impact on the design of the system.

And without more technical knowledge, you need to look into the software to determine if the trading bot can be used for day trading or long-term strategies.

A trading bot software usually contains a backtesting tool, a portfolio manager, a risk manager, and an execution engine.

The backtesting tool allows you to simulate your trading strategy in a sandbox environment comprised of historical data from markets. This allows you to check if your approach fits the market conditions and what results can it bring. 

The portfolio manager administers a set of trades and optimizes the allocation of funds to various strategies according to factors such as sectors, asset classes, volatility, and others.

In trading, there are several ways for the risk to come as increased volatility, increased correlations between asset classes, or “black swan” events. Therefore, a trading bot’s risk management systems have the role to try and anticipate the effects of these events on the trading capital. 

And, in the end, the execution system has the task to receive filtered trading signals from the portfolio management and risk management components and send them to a brokerage or other means of market access. 

And no, it will not make a phone call to the broker.

The trading bot will connect itself through an API to a trading platform. The software will then read information from the exchange about the asset prices and volumes to execute trades on your behalf.

The trades are only executed when the markets hit certain parameters. And this is where the strategy comes in. 

So we mentioned before that the trading bot can only be as good as your strategy is. That’s because the software will only act according to the strategies and settings you give them. 

What can and can’t trading bots do?

what can a crypto trading bot do?

In a way, trading is a lot like a strategy game. You come up with a plan to reach various goals while adapting to random events thrown at you by the game. The main difference is that in games, the uncertainty factor goes down the more you play and the better you become.

A random event like a draughty year or an invasion from a neighboring country is not that impressive around the endgame. No minor setback can prevent you from beating the game when you have already stockpiled food and have an invincible army. 

But this flaw of strategy game design does not apply to the world of trading cryptocurrency or other assets. You can spend your whole life mastering trading, and a random event such as the 2020 Pandemic can still come as a surprise.

But we can say for sure that trading bots have their strengths. And when it comes to facts, here are some of them.

What can trading bots do?

  • Trading bots are able to execute trades 24/7, according to the strategy. However, the software needs constant attention and the parameters require optimization. You can let a trading bot operate successfully overnight, but not over the course of a week.
  • The trading bot doesn’t have emotion and only acts on parameters. Sudden drops and bounce-back are quite the norm in the cryptocurrency space, so it’s no surprise to feel the temptation to sell everything when you see the price of your assets falling 10%. But a trading bot set to buy at -5% and sell at +2% will stick to this parameter, whatever crypto fear and greed index might show. And if you set a stop-loss order at -20%, the bot won’t panic even if the price goes as low as -19%. 
  • Algorithmic trading software tests strategies on historical data. This happens in order to evaluate if a trading strategy could fit the market. But due to the fact that the plan is tested on past events, it wouldn’t be surprising to get positive results in backtesting and wake up with a loss on the live market. That’s because even though there are similarities and cycles in a market, the conditions are never the same.
  • Algorithmic trading software can help you save time. The sole fact that the bot takes care of placing the order and tracking the parameters can save you anything from a few minutes to several hours.

On the other hand, there is a lot of fiction surrounding falsely advertised cryptocurrency bots.

What can’t trading bots do? 

  • Trading bots do not come up with new strategies on their own. A trading strategy can be profitable for a while but the moment the market condition changes, it will most likely fail to bring the same results.
  • A trading bot will not correlate real-world events with the market conditions shown in the exchange platform’s charts. A stock trading bot won’t take any action to sell or to buy airline companies stocks when the governments around the world put or lift restrictions on traveling. And in the same way, a cryptocurrency trading bot will not take any action when the news comes out that Ethereum Classic suffered a 51% attack. Although a human trader will immediately make a correlation and change the tactic, the trading bot will still stick to the initial plan.
  • Algorithmic trading software does not foresee the future. Although probability and statistics are legit fields of studies, there is no algorithm in any trading bot that can predict what exactly will happen and how a market will evolve. Whether it’s cryptocurrency trading or stock trading, risk management components and indicators can only show probabilities that the markets will evolve in a way or another.
  • Algorithmic trading software won’t make you a billionaire. Yes, they do save time. But a trading software can only be as good as you can set it to be. And it will still need supervising and reviews. 

It is indeed possible to make lots of money from investing in the markets, but this is a high-risk activity

The average Joe will not gain any more profits with automated trading than he would with manual trading. Nor working with strategies included in the software will work in the long term. Trading is as complex as getting a degree, and the markets change fast.

are trading bots legal?

Before cryptocurrencies, the question was  “are stock trading bots legal?”. And as cryptocurrency trading took proportions, Bitcoin trading bots started to pop up on the market.

In both cases, trading bots are not specifically regulated as being illegal on a global scale. Although you may have to check if there are any legal mentions in this regard in your area.

But generally, cryptocurrency trading bots and stock trading bots are legal

Also, you may have to check the platform you use for trading for any policies regarding trading bots. 

As a matter of fact, automated trading software offered by legit companies does usually tell what trading platforms they support.

But while trading bots are legal, you still have to look out for scams. As always, any offer that sounds too good to be true generally is. There are no guaranteed returns and there is no magic behind algorithmic trading software.

And giving access to your assets to sketchy software can result in phishing and loss of your funds.

Although there is no legislation to fight against it, even legit automated trading software providers sometimes leave faults in their codes that lead to the incorrect execution of a strategy.

As a rule of thumb, a good trading bot will never be free or cheap.

Key takeaways

  • A trading bot is a piece of software that executes trading orders automatically, when it meets certain parameters, according to a strategy.
  • A trading bot software usually contains a backtesting tool, a portfolio manager, a risk manager, and an execution engine. The software connects to trading platforms through APIs.
  • When it comes to facts about trading bots, they are able to trade 24/7 according to the strategy, only act on parameters, test strategies on historical data, and save you time.
  • Blowing up the fiction, trading bots do not: come up with new strategies on their own, correlate real-world events with the market conditions shown in the exchange platform’s charts, foresee the future, or make you a billionaire.
  • Trading bots are legal in most places but check for any legal mentions in this regard in your area. Also, stay away from bots that seem fishy and inadequately programmed software.