How Do Crypto Trading Bots Work

Crypto trading bots are useful for different forms of trading. Before using a bot for your crypto trading activities, it is important to have a basic understanding of what they are and the types of trading available:

Crypto trading bots are software applications designed to handle trading activities for traders. They are developed with market-based algorithms and built to perform trading activities as a trader would but with high-level automation. Trading bots operate according to encoded instructions and with the permission of the trader.

Crypto trading bots are structured to remove the human element in routine trading. They are designed with algorithms based on mathematical indicators and follow market patterns when performing trading operations. Thanks to their strict adherence to these algorithms, they avoid human practices like trading based on emotions. Trading bots also have a 24/7 availability and can run trading activities round the clock.

A good crypto trading bot is capable of diverse trading activities, and can be deployed to handle spot as well as different derivative trading models. Trading bots are not native to crypto trading, they are also prevalent in a range of other sectors.

Different types of crypto trading bots can be used to perform different activities, from the regular purchase and sale of specific digital assets to market-wide crypto arbitrage trading.

According to their primary operation strategy, crypto trading bots are categorized as follows;

AI Trading Bots

AI trading bots make trading decisions by analyzing market trading data. They are developed using Artificial Intelligence (AI) algorithms and trained using a vast amount of data. They can vary their trading patterns according to presiding market conditions as inferred from the data they analyze.

Scalping Bots

Scalping bots make trades in rapid succession to make profits from small changes in an asset’s price. Using the popular scalping strategy, they run quick purchases and sales and regular intervals.

Arbitrage Trading Bots

Arbitrage trading bots utilize the variation in the value of an asset across different markets. They are designed to purchase an asset from markets where they trade lower and sell them at markets where they trade at a higher price.

Market-Making Bots

Market-making bots take advantage of the market spread. They are made to create buy and sell orders and make a profit by trading the difference between both points. These bots that for crypto market-making are also meant to improve the liquidity on exchanges by narrowing the spread.

Leverage Trading Bots

Leverage trading enables traders to maximize their profits by trading with higher (borrowed) capital and using their initial capital as collateral. Leverage trading bots are designed to handle the leverage trading process on behalf of their users. They automate the process according to parameters set by the trader.

Lending Bots

Lending bots handle crypto lending operations. They loan out assets to borrowers in return for interest. Lending bots review lending strategies and loan out assets to the best-yielding pool. They maximize income for lenders.

Portfolio Management Bots

Portfolio management bots study market trends and rebalance users’ holdings according to pre-defined strategies to maintain profitability or reduce the chances of running a loss. Using Portfolio Management bots, investors can automate their portfolio management process.

Trend Trading Bots

Trend trading bots follow market movements. They run a buy transaction when an asset’s price is in an uptrend and sell when the asset is in a downtrend.

Mean Reversion Bots

Mean reversion bots detect assets that deviate from their mean value and bet on the chances of a return to the average value. For instance, when an asset appears to be oversold or overbought, it trades accordingly and makes a profit when the asset price recovers or drops to the average level.

Dollar-Cost Averaging (DCA) Bots

DCA bots purchase or sell crypto assets in splits to capture the changing market prices. Instead of making transactions at once, it splits the volume and makes the trade at set intervals.

Crypto trading bots are advanced trading tools. Despite significant variations in how the different types of trading bots work, here’s the basic operation mechanism for all trading bots:

The Mechanism Behind Crypto Trading Bots 

Cryptocurrency trading bots are software applications with encoded commands that perform permitted activities. They are usually developed by experienced programmers and connected to trading accounts as third-party applications.

The developers encode an algorithm and trading commands at the development stage using a high-level programming language. Trading algorithms used by crypto trading bots include a combination of known indicators like RSI (Relative Strength Index), MACD (Moving Average Convergence and Divergence), and Bollinger Bands. Trading bots are developed to study chart patterns in synergy with these indicators. Depending on the bot’s strategy, these commands are tweaked to correspond to certain parameters, and the bot is designed to trigger an operation when these parameters are detected. Some crypto trading bots are flexible enough to allow traders to select their preferred indicators and the prices at which the triggers are set. The bot proceeds to make a purchase or sale in response to the trigger.

On application, the trader connects the bots to their accounts using an API (Application Programming Interface). Crypto trading platforms allow segmented access to user accounts via APIs. While setting up the access, traders select the activities that the bots can automate. The trading bot is restricted to approved operations only. Using the API key, the trader connects the bot to their account, sets their trading strategies, and allocates trading resources to the bot. Traders can pause or disconnect the bot from their accounts at will.

Here are some advantages that trading bots offer to crypto traders:

Accessibility for Inexperienced Traders

Anyone can use trading bots. For traders who are new to cryptocurrency trading, trading bots are good tools to enhance their performance. Crypto bots can handle trading tasks and employ top trading indicators at an advanced level.

Strategy and Risk Management Automation

In addition to automating normal trading activities, traders can use their bots to minimize losses by automating capital and preservation processes like ‘stop losses’ and automated profit taking. Bots monitor the market 24/7 and apply these measures with more accuracy than traders would.

Cost Efficiency

Trading bots pack lots of utilities and advantages for traders. With the right trading bot, a trader gains expert-level trading ability with 24/7 activity. A profitable bot returns significant profit for traders and is a good investment.

Exceptional Speed

Trading bots mechanize trading activities. They can perform operations at a tremendous speed. Bots can complete several trading cycles in a few minutes. This impressive speed is a major advantage for the following reasons:

Exploiting Volatility

The crypto market is notorious for quick price swings. Sometimes, these swings happen so fast that traders are unable to complete trades at desired levels. With trading bots, traders can take advantage of the fast-paced crypto market and score profits repeatedly in a short interval.

Advanced Strategies

Strategies like scalping are impossible or less effective without a trading bot. Trading bots enable traders to apply the best crypto strategies to their trading.

Heightened Accuracy and Efficiency

Trading bots are accurate to the level of a computer system. They execute a trading strategy exactly as designed and only deviate from this in case of a bot dysfunction. They are precise in their operations and execute commands efficiently.

Strategy Testing and Optimization

You can effectively test your personal trading strategies by setting up a crypto trading bot accordingly. From the bot’s performance, you can adjust your strategy continuously until you obtain satisfying results.

Not Driven by Emotion/Biases

Human beings tend to trade according to how they feel. Feelings of fear, audacity, and indecision can affect trading strategies. Bots are hardcoded, they apply the strategies without bias. Using bots removes the human element from trading activities.

Here are some possible issues to look out for while using crypto trading bots,

Vulnerability to Bugs in the Software and Network or Server Issues

Trading bots are built with high-level programming languages. Like any other software application, they are liable to malfunction due to errors in the code sequence. Coding mistakes like syntax errors and wrong handling of variables and objects could result in significant disruption to the bot’s operations, leading to reduced profitability.

Full Control of Trades Requires Coding or Financial Knowledge

To get a full grasp of how your trading bot works and the best controls, a good knowledge of computer programming is essential. Traders who lack basic coding experience might struggle with using trading bots properly.

Disruption of Trading Activities Causing Losses

When a trading bot malfunctions, it could result in a halt in operations. In a worst-case scenario, users could run into significant losses.

Dependence on the Honesty and Quality of 3rd Party Platforms

By using a trading bot, you partly entrust the success of your trades to the developer. The ability of the developer to build a battle-tested bot is key to the success of traders. The inclusion of this external factor could affect your trading success.

Evaluate Your Trading Strategies

For a bot to work for you, it must be able to apply your trading strategies efficiently. While sourcing for a bot, the first thing to consider is the primary trading strategy(ies) and its ability to fit into other strategies that apply to you.

Performance History 

Check out available reviews for the bot you wish to use. You can seek peer and professional reviews on the bot and evaluate the profitability based on results from past users.

Bot Availability

Exchanges might restrict the activities of certain types of bots or bots from a specific developer. When choosing your crypto exchange, ensure that the bot is fully supported.

Ease Of Use

Depending on your knowledge of trading and trading bots, ensure that you understand how the bot works and can control the bot sufficiently. As a rule of thumb, do not use a bot that you cannot control easily.

Review Cost Factors 

Review the pricing plans for bots that tick other factors, calculate pricing and operational costs, and select the most cost-efficient option.

Ready to start using a crypto trading bot? Here’s how to integrate a bot to your cryptocurrency trading,

Choosing the Right Bot

After assessing the options available to you according to personal factors and factors related to the bot’s performance, select the most efficient and cost-effective bot provided by a reputable broker. Some bots have free plans for beginners, review the provisions of each plan and subscribe to one that fits you best. Install the bot by following the guidelines provided by the developer or brokerage.

Integrating with Exchanges

To integrate the bot with your account on a trading platform, you will need to enter your API key on the bot. To obtain your API key, visit your account area on your trading platform and navigate to the API management section.

Set the parameters accordingly and proceed to create and copy your API key. Enter the key on the bot to establish a connection between the bot and your trading account.

Configuring Trading Parameters

After installing your bot, paying for the trading plan, and connecting the bot to your trading account, you can now proceed to configure your bot. Check the parameters that apply to your trading strategy and set up your bot accordingly. After setting up your trading parameters, you can now start automating your trades with the bot.

Here are some recommendations for using a crypto trading bot:

Set Additional Limits

Apart from the limits initially set during the bot’s set-up procedure, additional external limits must be set where possible. This adds an extra layer of security for your funds and account in case of an unfortunate event.

Apply Risk Management Skills 

Risk management skills, like allocating only a portion of your capital to the bot, is important. Avoid over-reliance on the bot and keep in mind that it can malfunction in several ways.

Study the Bot’s Performance Consistently

Review the operation and profitability of the bot from time to time. Note changes in performance and evaluate them accordingly. If you change your trading strategy, monitor and compare the new performance with previous outputs.

Stay Up to Date with the Bot Developer

Follow up with the bot’s developer(s) to stay updated on new versions, changes in practices, and pricing. Evaluate key changes and how they affect you and your trading strategy.

Trading bots are handy tools and thanks to the wide range on the market, investors can choose a bot that serves them best. We have discussed the various types of bots in this article and factors to consider when choosing a bot for your trading activities. Here at Coin Hint, we’d advise you to carefully understand the provisions of the bot you wish to use before integrating it into your trading structure. Bear in mind that profits are not guaranteed while using a trading bot. As a recommended practice, ensure that you adjust your bot investments according to your risk tolerance level.

Disclaimer: This article discusses crypto trading bots for educational purposes and should not be taken as financial advice. Exchanges, trading bots, and crypto assets featured in this article are not endorsed. Always do your own research before investing in cryptocurrency.