Systematic Vs. Discretionary Trading
One of the choices that every new trader has to make is whether to be a DISCRETIONARY TRADER or a SYSTEMATIC TRADER.
Discretionary trading is decision-based trading (the trader decides which trades to make based on current market conditions), and system trading is rule-based trading (the trading system decides which trades to make, regardless of current conditions).
Both discretionary trading and system trading have the potential to be equally as profitable, so the decision should be made based on the personality of the trader. Some traders will immediately be able to recognize which type of trading is best for them, while other traders may need to experience both types of trading before they can make a decision.
What is discretionary trading?
Discretionary trading is decision-based trading, where the trader decides which trades to make, based upon the information available at the time. A discretionary trader may (and should) still follow a trading plan with clearly defined trading rules, but will use their discretion in taking the trade and how it is managed.
For example, a discretionary trader might review their charts and find that all of their parameters for a long trade have been met, but don’t enter the trade because the volatility for the day is too low, and thus it is highly likely the price won't reach the profit target for the trade.
What are the advantages and disadvantages to discretionary trading?
The benefit of discretionary trading is that it is adaptive to current market conditions. You may have a great trading system but if you know that it tends to perform poorly when certain market conditions are present, then you can avoid those trade. Or if you notice your strategy has a predisposition to perform very well in other conditions, you can increase your position size slightly during those times to maximize gains.
The disadvantage of a discretionary system is that many traders are prone to second-guessing themselves. They may actually be very poor at deciding when to trade and when not to, and therefore a more systematic approach would be better. Discretionary systems are susceptible to the psychology of the trader; being too greedy or fearful can destroy the profitability of a discretionary trading system in a hurry.
What is systematic trading?
Systematic trading is rule-based trading, where the decision to enter a trade is based entirely upon the trading system. If the parameters are met, the trade is taken. A systematic trader might review their charts and find that their trading systems requirements for a short trade have been met, so they will make the trade without any further decision-making process.
What are the advantages and disadvantages to systematic trading?
The advantage of the system trading strategy is that it is not susceptible to the psychological whims of the trader. The system takes all trades, regardless of the trader's feeling. The disadvantage is that a systematic trading strategy is not very adaptive. Trades are taken as long as the conditions are met.