Cryptocurrency nowadays is a far cry from the time it was introduced to the world. With nearly 3,000 cryptocurrencies and more investors moving in to cash on this digital asset, cryptocurrencies are more popular than ever.
As a result, crypto traders are continually looking for ways that can help them execute trades quicker and more efficiently – especially considering the unpredictable nature of cryptocurrencies. Bots have been one of the answers to this, and while they may be handy for some traders, they also manipulate the market and can prove annoying for human traders.
In this article, we will be exploring what exactly bots are, how they manipulate the crypto market, and how you can respond to them as a trader.
What is A Bot?
A crypto trading bot is a software program that’s designed to analyze market trends and execute trades automatically. They are essentially robots that replicate what human traders would do in various market conditions.
One of the reasons bots have really caught on in crypto markets is the well-known volatility and unpredictability of cryptocurrencies. For instance, a trader could go to sleep with their holdings in a favorable trading position only to wake up and find they have plummeted significantly – all in a matter of hours.
Unlike humans who sleep, bots don’t. Crypto trading bots work around the clock to maintain full control of a trader’s holdings position. What’s more, a bot can process information and make trades much faster and more efficiently than any human ever could.
Bots have gradually become a strong presence in financial markets. They are especially popular with high-frequency traders because they can detect and take advantage of tiny pricing discrepancies.
As cryptocurrencies have become popular, so have cryptocurrency trading bots. Today there are many types of trading bots – some being free and open-source and others available for a subscription fee from specialized companies.
Types of Bots
There are various types of cryptocurrency trading bots. Arbitrage bots are one of the most popular. These bots analyze crypto prices across various exchanges and execute trades taking advantage of the price differences. Arbitrage bots also take advantage of how slow some exchanges might be in updating the price of specific cryptos, for example, Bitcoin.
Other types of bots test out potential trading strategies by utilizing historical market data. Still, others have been programmed to make trades in response to changes in prices or trading volume.
How Do Crypto Trading Bots Work?
Bots use application program interfaces (APIs) to process the relevant information in an efficient manner. Then, with the data that has been processed, these bots will generate both buy and sell orders for the trader based on how they have interpreted the data.
Such data will include information such as market volume, price movements, current orders, etc. Bots are customizable, and as such, a trader can configure them to analyze even more complex data. Crypto trading bots work in several ways – some through browser plugins, OS clients, trading servers, and others infused in cryptocurrency exchange software.
The Uncanny Relationship between Bots and Crypto Markets
The crypto market seems to be the perfect environment for bots to grow and expand their influence. Unlike traditional markets that close in the evening and on weekends, the crypto market is open for trading 24/7 – and nowhere could automated trading be optimal.
Also, the number of crypto exchanges has exploded in recent years, providing excellent opportunities for arbitrage trading. It can be difficult and extremely time-consuming, keeping up with all the exchanges to exploit these opportunities. As such, many traders employ bots.
Bots can make crypto markets more liquid and efficient – thanks to their rapid and voluminous execution. But this can also make the markets more volatile.
Bots are influencing a large percentage of crypto exchange trading volumes. Bots’ activity can manipulate the markets by inducing traders to buy at a higher price or sell lower than originally planned – which is very often the case with limit orders.
They can also influence market orders by presenting bot orders of negligible quantities close to the market price before the first real order of any significant volume is observed. These are the bots tricking you into placing market orders that will be filled instantly – but most of which will be filled against the order at a worse price.
Bots can also be an annoyance when you’re placing a bid, and it gets outmatched instantly – and especially if you’re placing an initial order based on what you thought to be a market ‘mispricing.’
How to Deal With Bots
So, how do you deal with bots? Some traders would try to outdo the bots by placing buy orders that are slightly higher than the bot’s bid price, or placing a sell order at a slightly lower price. Although this strategy may work for a one-off trade, it may not be sustainable in the long run –especially if you’re a high-frequency trader. Such little annoyances will eventually amount to considerable losses in the long term.
As such, it’s better to submit the bid price you had originally intended. If the market is volatile, then your order will still be filled, although it will take a bit longer.
Alternatively, you could take time and observe the behavior of the order book. Often, bot orders show up and then quickly disappear, or move around the book if there’s a constant adjustment of prices. By doing this, you could understand the intention of the bots and gain a more accurate perspective of how and when to place your order.
You could also get yourself a bot. While they can be frustrating for the average trader, bots can be a useful aid, especially for those who can’t afford to stay glued to the screen all the time. Also, they can process information and make trading decisions faster. After all, they don’t seem to be going anywhere, and they only become sophisticated with time.
Now that you know what bots are and how they can manipulate the market, you’ll be able to identify certain market movements that seemingly come from nowhere and respond to them accordingly. You can even buy yourself a bot and take advantage of their 24/7 trading ability, their efficiency, speed, and so on. Whatever you do, being aware of bots’ existence and their influence will help you make more informed and better trading decisions.