Opening Position
April 2011
Hats off to Ibm’s Watson supercomputer for its victory on the TV show Jeopardy! I was interested in finding out if Watson would prevail, but I had reservations about watching the show just because I didn’t want to find out that a computer’s trivia knowledge was better than mine. Do the results of this game have any implications of which way the world is heading? In this situation you have Watson, which uses a computer processor to analyze all possible outcomes, versus humans, who use their instincts to try to come up with possible outcomes. And the computer wins.
I think the main reason behind this victory was that Watson didn’t have to confront any of the emotions that we humans constantly have to. This gave Watson a clear advantage. In the game of Jeopardy!, the contestant who first hits the buzzer gets to respond first. Humans are more likely to take a little longer to hit that buzzer because they may have to give a little thought before coming up with their response. They may fear being incorrect or may not have full confidence in their response. They could have any number of emotions running through their heads before they hit the buzzer. Doesn’t this remind you of trading? Don’t you have a ton of thoughts running through your head before you hit that enter button?
The Watson victory tells us that a lot is possible with algorithms, and those possibilities have spilled into the trading world. Aren’t the institutional traders using algorithms for their high-frequency trading? This could make the trading environment even more challenging for the retail trader. Even though it takes humans to create or develop the algorithms, the retail trader is not in a position to compete against algorithmic traders. We will always be slower than the big players, and sometimes our strategies may just not work because of the tactics used by high-frequency traders.
But this doesn’t mean that we will not be able to trade. We just have to find a way to trade that won’t be affected by the algorithmic trading world. Algorithmic or high-frequency traders trade for a very short-term time period. Most retail traders are not in a position to trade as quickly as that, so really, you have a large pool of strategies from which to choose and a large pool of products from which to trade.
In the grand scheme of things, you’re not going to be affected much by algorithmic traders. A computer can only trade based on how it has been programmed to trade—that is, it is dependent on its inputs and processes to generate the desired outputs. You have to do the same things: select the inputs that will give you the desired outputs.
Jayanthi Gopalakrishnan, Editor