What Is Automatic Execution?

Automatic execution is a method for executing trades without imputing them manually. Automated systems allow traders to take advantage of trading signals to buy or sell an asset whenever a signal is generated, so the trader doesn't need to manually input the order. Orders can be created automatically based on a wide variety of technical indicators and trading systems.

Key Takeaways

  • An automatic execution is an order that doesn't need to be manually inputted; the order is created by an automated trading program.
  • Automatic executions occur without confirmation from the trader, although the trader is still in control of the program executing the trades. For example, they can alter the program or turn it off or on.
  • Automatic executions can be created based on a wide array of strategies, combining both fundamental and technical criteria.

Understanding Automatic Execution

​​​​​​​Automatic execution has become commonplace as trading systems continue to grow more sophisticated and complex, and with advances in technology.

Automated trading strategies are often used by professional traders and market makers, and some retail traders. One exception is the foreign exchange (forex) market, where most retail traders have access to automated trading strategies and programs.

Because the forex market trades 24 hours a day, five days a week, these automated algorithms may help ensure a trader does not miss out on profitable opportunities. The triggering of specific signals from a variety of technical indicators, such as those based on price, volume, and other criteria can help the trader to capitalize on opportunities even when they are not sitting in front of their trading terminal.

Automatic execution allows for orders to be filled automatically once placed, without additional confirmation from the trader running the automated trading software. This makes order placements must quicker, which may aid in getting better prices when prices are moving quickly; a manual order may take a few seconds or more to enter, while an automated order is deployed in milliseconds.

Automatic execution also allows for trades to filled when the trader who is running the automated trading program isn't present. If a trade signal occurs, an order will be deployed and automatically executed if there is liquidity available at the order price.

Disruption from Automatic Execution

While automated execution can help traders profit when quick orders are required, or the trader isn't able to monitor the market, automation may also be disruptive. Because automated trades can execute so rapidly, markets can be subject to severe disruptions and anomalies. Market disruption is a situation where markets cease to function conventionally, typically characterized by rapid and substantial price moves.

For example, on May 6, 2010, the Dow Jones Industrial Average (DJIA) declined approximately 9 percent in just ten minutes. Yet, the market erased a large part of that decline before it closed. This disruption became known as the 2010 Flash Crash and is believed to have been caused, to a great extent, by automatic trading programs which began to sell as other programs sold, creating a domino effect.

Setting Up Automatic Trading

Automated systems allow for a wide variety of trading techniques. Most traders use a combination of several indicators, as well as other forms of technical and/or fundamental analysis. Various types of chart patterns, price and volume, and other criteria can be set up to trigger the opening and closing of positions. Detailed and intricate strategies can be defined based on these criteria, and then programmed to be deployed automatically when certain conditions align. 

Traders must be careful when deploying these systems. Technical indicators may not be valid if fundamental conditions suddenly change. When events happen which may warrant avoiding trading in a specific market, automated orders will still be processed without human intervention,

A few of the possible automatic execution settings include:  

  • Limit order is an order a buy or sell transaction at a specified limit price or better.
  • Stop loss order is designed to limit an investor’s loss on a position in a security and can work with short and long positions or holdings.
  • Fibonacci ratios include retracements, arcs, and fans which traders may use to look for confirmation of other technical analysis.
  • Stochastic oscillators are momentum indicators which compare the closing price to the range of prices over a period.

Examples of Criteria That Could be Used to Set Up Automated Executions

Automating a strategy is hard work. Not only does profitable automated trading require a sound strategy, but that strategy must also be convertible into programming code or rules that a computer can understand. The rules can't be based on subjectivity, and many trading strategies are subjective. They are only used in certain conditions. Unless those conditions are explicitly defined in the programming code, the strategy will not trade in the way intended.

Things to consider when setting up automated executions include:

  • Risk caps. These may include stop loss orders on all trades. For example, a stop loss could be placed a fixed dollar or pip amount away from the entry point, or a certain percentage away.
  • Entry criteria. Define exactly what conditions need to be present in order to initiate a long trade or short trade. A simple example could be a when a short-term moving average (MA) crosses above a longer-term MA.
  • Profit taking. A stop loss controls downside risk, but profits must also be taken. Define how a trade will be exited if the stop loss is not reached. This could be a fixed dollar or pip amount, a percentage, or a defined reward:risk based on the risk. For example, if the risk of the trade is 5%, take profit at 15% (3:1 reward:risk).
  • Constraints on conditions. Define when the program will trade and when it won't. For example, can a stock strategy trade in the pre- or post-market, or only during regular hours? Can it place trades right before major news events? Decide, and then define the constraints.

Within these basic considerations are infinite possibilities as to how they are programmed. This allows for great flexibility when it comes to automated trading, yet at the same time, the more complex a system the harder it is to find out what part of it isn't working when things go wrong.