You might think that you can pick any trading algorithm with a strong performance history and trade profitably. But selecting suitable algorithms is a bit more complicated than that. There are some factors you need to assess to ensure that your algorithm will be a fit for your trading plan, schedule, risk appetite, and more.
Let’s go over what you should consider when you are choosing your algorithms. We will focus on selecting the right algorithm for you in this post, rather than simply choosing quality algorithms in general. We will assume you already know how to shop for good performance overall.
1. Figure out your risk tolerance
One of the first important decisions you need to make before trading forex is how you are going to manage your risk.
- What is your appetite for risk overall?
- How much do you plan to risk on each individual trade?
- Are you comfortable with trailing stops, or do you prefer to set a specific stop loss and take profit?
Some forex algorithms are a better fit for some risk models than they are for others. If you don’t want to trail your stops, for example, it wouldn’t do to use algorithms where stop trailing is necessary for the strategies to be profitable.
Similarly, if an algorithm produces some long losing streaks for big wins, you might not want to use it if you can’t weather that kind of drawdown, or if it would cause you too much anxiety.
2. Set goals
Set some initial goals for your trading. How many trades do you want to be able to place in a week or in a month? Are there certain currency pairs you prefer to trade?
3. Pick a money management plan
As you are determining your risk tolerance, you will also decide on a money management plan. This is the plan that governs how much you risk per trade.
We recommend that you try to limit your risk per trade to around 2% of your total account size.
If you have a small account, that may mean that your typical profits for each trade are pretty small. Some solutions are to pick algorithms that generate many trades each month, and/or to utilize strategies that employ trailing stops and target profits while riding out trends.
Speaking of trailing stops, decide whether you want to use the algorithm to choose the exit for you, or if you want to do it yourself. If you want to take profit manually, make sure that the timeframe is such that you can fit the necessary monitoring into your schedule. That brings us to the next consideration.
4. Decide on what timeframes to trade
Figure out what timeframes you are comfortable trading. Smaller timeframes may generate more trades, but keep in mind that they also tend to be choppier and more volatile.
Algorithms can execute quickly and automatically, which can make it easier to profit off of very small, fast moves. Still, you risk being stopped out more often on small timeframes.
5. Make sure you can use the algorithm on your trading platform
Not every trading algorithm is compatible with every trading platform. Check to see if you can run the algorithm you are interested in on the platform where you trade.
Of course, if you really want to trade a particular algorithm, but do not have a compatible platform, you could always go open an account no another platform. You also could try to build your own algorithm based off of it. If you do not know how to code, you could use AI assistance.
6. Choose strategies you are comfortable with
Next, you need to think about what types of strategies you are interested in. Do you favor price action? Fundamental analysis? Technical analysis?
For many traders, it is not going to matter so long as you are satisfied with the results. Others though may avoid some strategies for whatever reason. For example, someone who just finds it too anxiety-inducing to be in the market when reports drop or news comes out may want to avoid algorithms that are built for news trading.
7. Meet your diversification needs
You could trade with just one algorithm, but many traders choose to use at least several, sometimes more.
There are a couple of reasons. The first is that using more than one algorithm generates more trades. The other is that you can use this approach to diversify.
If you diversify your algorithms, and one of your algorithms stops working, you stand a better chance of the others continuing to perform.
So, think about the algorithms you are already using for forex trading. What strategies are they using?
If all of your current algorithms currently follow some similar or related price action strategies, for example, maybe it would make sense to choose something totally different for your next algorithm, like an algorithm that uses technical analysis.
Or, if all of your algorithms currently have you trading on low timeframes, you could try adding some for higher timeframes, or vice versa.
Or maybe you are using algorithms that are optimized for certain pairs. You could add in some algorithms optimized for different pairs.
Those are just some examples. You might think of other ways to diversify too. You don’t have to go wild with dozens of algorithms. But having more than one is definitely a good precautionary measure.
Choosing the Right Trading Algorithms Can Pay Off
Selecting the best trading algorithms is not just about finding algorithms with good track records. It is also a matter of finding algorithms that fit neatly into your trading plan and money management strategies.
The next time you are picking out trading algorithms, think through the list of considerations that we went over in this post. By carefully assessing whether a given algorithm will meet your needs and goals, you can choose only the ones that will be the right fit for your trading plan.
