Cryptocurrencies are still considered quite new, and their nascency is part of what makes them so volatile. Until cryptocurrency settles and becomes more stable, trading will likely remain somewhat erratic. However, it is not simply the newness that makes them volatile, but also the fact that they are decentralized and are unbound to normal market rules.
Unlike the stock market, cryptocurrency trading occurs 24/7. There is no opening or closing of the market, which makes it hard for investors to conveniently react to price fluctuations. This is where crypto bots come into play. Cryptocurrency trading bots are essentially automated computer programs that investors can use to buy, sell, and trade for them at the right time. These bots follow a set of pre-defined rules to execute trading according to your preferences.
Crypto bots can help individuals trade more efficiently and generate more of a profit without being limited by time constraints due to volatile, round-the-clock fluctuations. However, it’s important to keep in mind that trading still involves strategy, and while crypto bots can help you be more efficient, they are not foolproof.
Not all cryptocurrency bots are the same, and they all use various processes to analyze data and predict risk. So if you plan to invest in cryptocurrencies by using a crypto bot, it’s essential to fully understand exactly how crypto bots work and the best way to use them.
How Do Crypto Bots Work?
There are typically three main components or services that most sophisticated crypto bots use. Each of these components is essential and plays an important role in the overall functionality of the bot.
This first function is what bots use to initially identify potential trades and make predictions. It is essentially the data analysis phase. Data is collected and fed into a signal generator, which then uses various analysis methods, such as technical analysis or fundamental analysis, to churn out buy or sell recommendations. This allows traders to automate the analysis process that they would otherwise do manually, allowing them to buy, sell, or trade on a larger scale.
The risk prediction function of a crypto bot takes the information received from the signal generator and uses it to then decide how much currency to allocate to buy or sell. With this feature, the bot is deciding if it is wise to use all of the investor’s capital on a certain trade or just a portion of it. In trading lingo, that means buying all in one block or averaging in.
This is perhaps the most essential feature of a cryptocurrency bot as it leverages market data to determine the potential risk of an asset. Traders can also set specific limits or other pre-defined rules where risk allocation is concerned, such as a stop-loss order, to limit potential losses and protect against market crashes.
The execution feature of a crypto bot is exactly what it sounds like — it is when the bot reads crypto charts and uses the data, recommendations, and risk predictions to then execute a trade. Though this sounds simple, executing a good buy or sell can be tricky.
Numerous factors can affect buying and selling patterns that bots use, such as cryptocurrency prices, daily trends, market caps, and more. Buying and selling cryptocurrency is somewhat like a game that requires a good strategy. Every component of a crypto bot (signal generator, risk allocation, and execution) is essential and must have an algorithm and optimization process to execute profitable trades.
What Are The Advantages of Trading With Crypto Bots?
While crypto bots certainly aren’t perfect, they do offer investors and traders several distinct advantages that are unmatched by traditional day trading strategies. Additionally, one of the many benefits of using a crypto bot is the fact that they act without the flaws of human error.
First, cryptocurrency bots are generally more reliable for the simple fact that they can operate 24/7, while humans cannot. As previously mentioned, one of the things that makes cryptocurrency so volatile is that it can fluctuate in price at any moment and is not limited by “opening” and “closing” like many traditional markets. Thus, utilizing a crypto bot provides investors with better reliability in that it allows them to track and react to crypto markets more quickly than a human person would be capable of. This ability to track cryptocurrency 24/7 combined with automated execution helps traders and investors better avoid and mitigate potential losses.
Crypto bots are computer programs that act analytically based on code, as opposed to humans who can be influenced by their emotions. This is not to say that the decisions a bot makes will be perfect, but they can invest more objectively because they lack emotions.
Though emotions and instinct can sometimes lead us to make good decisions, this is more unreliable and unstable in the long term. Bots, however, can maintain indifference and always make the logical choice, which overall can minimize risk and lead to greater profits for investors.
A cryptocurrency trading bot can find and process large volumes of data much quicker than a human can. What might take an investor hours to research, process, and understand can take a bot minutes or even seconds. As a whole, the fact that a crypto bot can work 24/7, process market data in seconds, and carry out hundreds to thousands of trades in a fraction of the amount of time it takes a human makes them incredibly efficient by comparison and a much better long-term option for growing profits.
Crypto Bot Trading Strategies
When building a crypto bot, you can set various features or algorithms that suit your specific investment and trading preferences. It’s always best to do a bit of research to ensure you are choosing the best strategy and algorithm for you. Some of the most common strategies include:
A momentum strategy is based on the assumption that prices are up and will likely continue to go up, thus it is a good time to buy. It is a strategy that rides a positive wave of momentum, buying as things go up, and then selling the second the momentum reverses. The timing of buying and selling with this strategy is crucial, and generally, momentum strategies don’t win often because of this. However, when they do win, it tends to be a relatively large gain.
This strategy is based on the assumption that if the price shifts away from the average, such as by going up or down, it will eventually revert to its original price. In reaction, it may then be either a good time to buy or sell. For example, if a coin goes up from $1 to $1.25, traders will sell it off in bulk, but this action will then reduce the coin back to its original value of $1. In reverse, if the price drops, it’s a good time to buy in bulk, and when this happens, it will raise the value back up.
This is a safe strategy as it traditionally wins more often than it loses. However, the gain to loss ratio is typically smaller. So it’s safe, but it’s not necessarily going to lead to any big gains — but it also won’t likely lead to any big losses.
Arbitrage bot strategies are relatively common as it is based on the straightforward assumption that the price of a coin can vary in different exchanges due to fragmentation across marketplaces. A coin could be priced at $2 in one exchange market and $2.01 in another exchange. With this strategy, the bot would compare prices across different exchanges and then make a trade that benefits from the discrepancy in pricing.
Bots are good for this type of strategy because you would need to buy and sell at almost the exact same time to benefit, which is more easily done by an automated bot than a human. However, the gains from using an arbitrage strategy tend to be fairly marginal, even more so than mean-reversion.
This strategy is based on Bayes’ theorem of probability, which uses data to predict the probability of an outcome. Essentially, it assumes that the presence of one feature in an asset is unrelated to the presence of any other feature — but all of these features could independently contribute to the probability of a certain outcome. It is a rather complicated strategy, which is why it is handled best by a bot that can use machine learning algorithms to make a prediction.
Natural Language Processing
Natural language processing (NLP) is a strategy used to program bots to make decisions based on trends. The price of cryptocurrency is volatile and can change at any moment due to trends from things like articles, social media posts, and other digital content. So, with an NLP strategy, the investor or trader programs the bot to pick up on certain words or phrases in digital content so it can analyze trends and make beneficial trades.
The takeaway from all of this is that crypto bots are much more efficient at handling the volatile cryptocurrency market, but the profit they bring will still depend greatly on the strategy used and how you program them. Simply picking one bot and using its basic features will likely not get you anywhere. So, it is ultimately best to do some research and program your bot to your specific needs and preferences, utilizing the best strategy to mitigate losses and make the most gains.