What Is A Trading Bot?
Aug 5, 2021
Here are some terms you are likely to hear in the cryptocurrency space:
- Algorithmic trading
- Automated trading
- Trading bot
- Algo trading
What do these terms mean?
Quite simply, they are terms used to describe trades that get automatically executed by software. Let’s break them down phrase by phrase…
Algorithmic trading was first introduced in the early 80s, with the introduction of advanced software. This software allowed for computers to connect to live stock and forex exchanges and execute trades automatically when certain conditions had been met. In other words, an algorithm (or, a little piece of software) was coded and then deployed to read markets and perform certain actions when certain market conditions were met.
Another word for this piece of software could be a “bot”, or “trading bot”. The software is trading automatically, and therefore is in many ways acting like a robot. The software engineer and their clients sit back while the trading bot does the hard work of trading on their behalf. The hard work, of course, was building the bot (or piece of software).
There are many complex equations and scenarios to be taken into account when trading. These equations all need to be precisely coded into the software to ensure that the trading bot is profitable.
Most trading bots end up being only marginally profitable because of these complexities. This may mean they aren’t worth the investment of creating them. The ones that do work, however, are usually so successful that there is not much point in selling their rights to other people or businesses. The creators become immensely wealthy off the back of their creation.
Trading Bots and Traditional Finance
Trading bots weren’t adopted on a wide scale in the traditional finance industry, owing to the ring-fenced nature of the exchanges. Central exchanges like the NASDAQ, the London Stock Exchange, NYSE, and the Japanese Stock Exchange didn’t offer easy access to their order books.
Trading bots were for the very few wealthy investment houses of Wall Street and surrounds. But, with the advent of cryptocurrency and cryptocurrency exchanges, that idea has been completely upended.
When the first cryptocurrency exchanges began to gain popularity in 2014/15, it didn’t take long for them to offer “API integration”.
Having been built by software engineers interested in the future of finance, and working in an industry devoted to the independence of money, it made sense that these exchange founders would want to allow other software engineers the opportunity to trade on their platforms using trading bots.
Cryptocurrency Trading Bots
Of course, this meant that the exchanges would attract more customers (trading bot creators) and therefore generate more fees. With financial assets that are entirely digital, cryptocurrency and trading bots are indeed a match made in heaven.
The same rules that we’ve explained in our introduction still apply: Trading bots are hard to build and design. Most trading bots that are profitable aren’t available to the public because they simply make their creators a lot of money. There are, however, trading bots out there available to the public that do seem to provide fair returns, and are reasonably priced.
How a Trading Bot Works
A cryptocurrency exchange will offer an API: “An Application Programming Interface”. This is an interface of data provided by the exchange (the dataset provider) that can be used for applying some programming. In other words: A set of data that a piece of software can read, and then execute with.
The API interface
The interface works both ways: Between the exchange and the software itself. One side (the exchange) provides the data like buy & sell prices, amount available, trading volumes, and other important information. On the other side is the software (trading bot), executing its code and making trades automatically on said exchange.
APIs in Cryptocurrency
The API is the link between the exchange and the trading bot. Without the introduction of widely available APIs in the cryptocurrency industry, trading bots would never have become as popular as they are today. And we at MEX Digital are delighted to offer our order book data in the form of an API for your own software uses.
APIs and Your Trading Account
The bot, of course, would need access to someone’s trading account, which is where things become risky. Each account is provided its own API “key”. This is a secret code related to only that specific account. When a trading bot is connected to the API, it does not have access to the exchange’s entire database of users, only the account of the specific user who’s API “key” is being used.
Trading Bot Security
Users must be absolutely sure of the trading bots that they use. Trading bots have access to their accounts, and have the power to automatically send cryptocurrency to other addresses away from your own account.
Most exchanges, including MEX Digital, allow users to set certain parameters associated with their API key so that only trading on the exchange can be performed by the bot– not the sending or withdrawing of assets.
Arbitrage trading bots, however, need to have access to send and withdrawal functionalities, due to the nature of arbitrage trading. That’s why it is so important to use a trusted arbitrage provider when exploring different trading bots. Please note that MEX Digital does not allow arbitrage trading bots.
Profitable Trading Bots
All in all, API offerings by cryptocurrency exchanges have the potential to revolutionize the way the average investor and trader makes profits. Thanks to the rapid development of profitable trading bots in recent years, we are seeing traders implement them at scale.
Again, we encourage users to take extreme caution when exploring various trading bots, and ensure that the bots are reviewed and trustworthy. Your API keys are effectively keys to your exchange account, so don’t give them away lightly!
Start your cryptocurrency journey with MEX Digital. Remember, proper diligence and sound judgement should be used in evaluating the risks associated with these activities. Trading cryptocurrency carries significant risk and losses can exceed deposits. Refer to our Terms and Conditions and disclosure material.