3

More and more teams around the world are starting to compete against each other with sophisticated trading algorithms (both high and low frequency trading).

For a private investor, if this trend continues, should I expect any yield from longterm investments in index funds?

6

What the automation mostly does is make short-term trading that much more difficult. Day trading is a zero-sum game, so if they win more, everyone else wins less.

Long term trading (years to decades) is a positive-sum game; the market as a whole tends to move upward for fairly obvious reasons (at its basis it's still investing, which in turn is based on lending, and as long as folks make fairly rational decisions about how much return they demand for their investment and the companies are mostly producing profits there will be a share of the profit coming back to the investors as dividends or increased share value or both. Day-to-day churn in individual stocks gets averaged out by diversification and time, and by the assumption that if you've waited that long you can wait a bit longer if necessary for jitters to settle out.

Time periods between those will partake of some mix of the two.

  • there is a fine line between algotrading and market manipulation. as a private investor this is exactly what worries me. – Sparkler May 4 '15 at 3:50
  • That's why I don't attempt shortterm. I know how well armed my opponents are, I know I'm not willing to invest the effort that should be spent before sitting down at that table, and I know my limits. Longterm, they're pushing the same direction I want to go. – keshlam May 4 '15 at 4:06
  • then what "guarantees" that short term activity doesn't influence significantly the long term performance? – Sparkler May 5 '15 at 14:31
  • There are no guarantees; if you want them, the market is the wrong place to look.. However, shortterm automated trading is all about small movements of the stock, and I currently believe that for the most part it's lost in the noise as the timescale increases. If someone has evidence otherwise I'm interested; otherwise "with this, my lord, myself hath naught to do." – keshlam May 5 '15 at 14:40
  • But is there a theory that says there's no correlation between the two? – Sparkler May 5 '15 at 15:15
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There is a difference between trading which is short term focussed and investing which is longterm focussed.

On the long term what drives stock prices is still the overall economy and the performance of the underlying business aspects. I do not think that any trading algorithms will change this. These are more concerned with short term profits regardless of the underlying business economics.

Therefore I think that longterm investing using index funds is still a viable strategy for most private investors.

  • 1
    Most people who don't understand trading think that the only type of trading is short term day trading. There are many types of traders with varying time frames. There are position and swing traders who can hold a position from a few days to a few months and there are also trend traders who can hold a position for years (for as long as the trend continues). In fact some traders can be classes as active investors. – Victor May 2 '15 at 23:12
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Why wouldn't you expect a long-term profit? Say you buy 100 shares of company X, selling for$1/share today. You hold it for 20 years, after which it's worth $10/share (in inflation-adjusted dollars). So you've made a profit, only making two trades (buy & sell). What the algorithmic traders have done with short-term trades during those 20 years is irrelevant to you.

Now expand the idea. You want some diversification, so instead of one stock, you buy a bit of all the stocks on whatever index interests you, and you just hold them for the same 20 years. How has what the short-term traders done in the intervening time affected you?

  • Unless there is a crash just before the 20 years is up! – user9822 May 3 '15 at 22:51
  • Part of the longterm principle is recognizing that you aren't going to pull it all out at exactly 20 years (or whatever). You can choose how much to draw when, and in fact you're probably going to draw only a small portion of it at any time, so you can wait out most slumps without losing a great deal of your gains. – keshlam May 4 '15 at 4:08

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