Although the rise of algorithmic trading (also known as AI investing or quantitative investing) has become an increasingly popular investment approach over the last decade, many new investors often express some skepticism about its reliability and ability to outperform traditional investment methods.
This article compares algorithmic trading vs. manual trading, pitting them against each other using the compound annual growth rate (CAGR) for popular index funds as the benchmarks. We then go on to show how these approaches might uniquely affect a $1000 investment. Finally, we conclude by offering our final verdict on algorithmic trading vs. manual trading.
Average Returns Compared
CAGR is one of several metrics used to evaluate the success or failure of an investment fund. It shows how much more or less the fund made by the end of the given time period than it had at the start. This number is usually measured over an annual period, but larger reports often show these jumps over a 5, 10, or even 15 year period to demonstrate consistent growth over time.
Below are the average CAGRs for several of the top index funds over a five year period:
|S&P 500||Dow Jones||Nasdaq Composite||Russell 2000||NYSE Arca Oil Index|
The numbers listed above may be shocking when you consider that the average manual investing return is somewhere between 5-10% in a given year. This implies that, while investors could be making a great deal more money by simply investing their money and leaving it alone for several years, they are not. So why is that happening?
The answer is human bias, which affects manual trading strategies in a couple impactful ways, which include:
- Emotional Interference: Investors are like any other human beings on earth. They are subject to emotion and often make rash decisions out of fear, causing them to cash out of investments too quickly or too late.
- Fatigue: Investors are subject to human fatigue. They need to rest at some point, meaning they will likely miss out on possible trades they could have profited from.
- Knowledge Gap: Investors have a relatively limited knowledge of market patterns and trends compared to the weight of a full-blown AI.
Algorithmic trading, however, has none of these holdups, which shows when you look at their returns. So let’s compare these numbers with the provided five year growth rates of the most popular robo traders:
When looking at these returns, it becomes clear that even the most straightforward investing strategy benefits from an algorithmic approach, boasting average returns of roughly 2-3x the average manual investing return. This means that whereas a manual investing strategy might get you another $100 out of your initial $1000 investment, an algorithmic approach would net you $200-$300, on average.
That being said, there are possible setbacks that come with an algorithmic engine.
So Why Not Just Use a Robo-Trader?
Robo traders like Wealthfront or Betterment have become popular investing tools as the world has increasingly focused on algorithmic trading tools. The ease of use and general accessibility they offer make them incredibly attractive, especially to newer investors who easily feel overwhelmed by the complexities of the stock market.
That being said, they do have their drawbacks. A couple of things to keep in mind when selecting an investing platform include:
- Lack of Investor Knowledge: A robo-trader is great for telling you when the market is ripe for investment but often very poor at knowing when you are ready to invest. Many robo-traders attempt to mitigate this by allowing users to select their preferred level of risk when signing up, but no survey, no matter how extensive, can equal a consultation with a human financial advisor to understand your concerns fully.
- Uncertainty Against New Phenomenon: Algorithmic engines work by analyzing existing market data, recognizing patterns and trends to create their strategies. It isn’t often that something entirely new happens in the market, but when it does, algorithmic engines have no rules to work off of, making them susceptible to error in these cases.
The best thing a new investor can do is find an investment platform that offers face-to-face consulting services with an actual human being. Experienced professionals like these can develop a more nuanced understanding of her concerns and priorities, allowing for a more tailored investment strategy.
Algorithmic Trading vs. Manual Trading: The Verdict
Using just about every metric available, algorithmic trading is a better option than manual trading. In addition to being more profitable, algorithmic trading is more widely accessible and easier to use than manual trading. New investors should be wary, however, of how they structure their investment strategy, as the algorithm can only be so conscious of the investor.
You do not have to choose between algorithmic trading vs. manual trading. RIMAR Capital makes artificial intelligence-based investing broadly accessible to everyday investors who don’t fit the profile of a typical hedge fund client. With RIMAR, investors have the choice of several different trading strategies, all of which are backed by some of the industry’s leading experts. What’s more, RIMAR investors don’t need millions in assets to invest, nor are they subject to a battery of fees and prohibitions on when and how they can access their own money. So if you’re ready to pick up returns that are only possible with data-driven mastery of the market, RIMAR Capital is the perfect fit.
Contact us today to see how RIMAR Capital can help grow your portfolio’s value with hedge fund-like returns earned using its AI-driven investing strategies and skilled quantitative trading staff.
Note: This piece assumes an average risk tolerance and presents numbers accordingly. Investor risk varies from person to person, so the numbers presented below may not accurately represent everyone’s situation.