Cryptocurrency trading bots: types and setup features
Cryptocurrency trading bots are tools that can monitor price quotes around the clock and automate trades with digital assets. However, for cryptocurrency trading bots to generate profit, it is necessary to understand the principles of how they operate.
Types of cryptocurrency trading bots
Before understanding how cryptocurrency trading bots work, it is necessary to know what types exist. The two main types of cryptocurrency trading bots are built-in and external.
Exchanges provide built-in cryptocurrency trading bots. Such trading bots can be configured on many major exchanges, including Binance, Bybit, Bitget, and OKX. Their functionality is usually limited. Exchanges also often offer ready-made cryptocurrency trading bots, including those configured by other users (automated copy trading). Such cryptocurrency trading bots can be launched immediately or after minor adjustments.
Here are several types of pre-configured cryptocurrency trading bots found on crypto exchanges:
- Grid bots, which trade cryptocurrencies at predetermined intervals (a grid of levels) within a specified price range. Grid trading bots are most often used during sideways market movement (flat), when the asset price moves within a narrow corridor.
- DCA bots, which follow a dollar-cost averaging strategy within a long-term accumulation strategy — HODL;
- Trend trading bots, which follow the market direction.
- Scalping bots, designed for high-frequency trading;
- AI bots, whose trades are based on artificial intelligence analysis. AI bots are a rare exception that can use external data for trading, including news reports and market sentiment.
External cryptocurrency trading bots are tools from third-party providers that operate via API. Such cryptocurrency trading bots may offer broader functionality and automate trades across multiple platforms simultaneously.
In addition to the types listed above, there is another category of external cryptocurrency trading bots: arbitrage bots. Arbitrage cryptocurrency trading bots allow users to take advantage of price differences for the same cryptocurrency across different platforms.
There are both free and paid cryptocurrency trading bots. Paid trading bots usually provide more advanced crypto trading settings, enabling more efficient trade execution. Independent configuration of free cryptocurrency trading bots requires a sufficiently high level of knowledge and experience in crypto trading.
There are also specialized marketplaces where users can purchase pre-configured cryptocurrency trading bots. However, there is a risk of encountering poorly configured or incorrectly configured bots, which may lead to losses.
How do cryptocurrency trading bots work?
The main functions of cryptocurrency trading bots are to automatically monitor market conditions and execute trades based on parameters predefined in their algorithms. The user's income depends directly on how the cryptocurrency trading bots are configured.
The functionality of cryptocurrency trading bots is based on three key components:
- data collection,
- signal generation,
- trade execution.
At the first stage, cryptocurrency trading bots scan market data. It should be noted that trading bots can only consider technical analysis data. Fundamental factors, such as project news and overall crypto market news, as well as sudden mass sell-offs that may disrupt the algorithm's operation, cannot be predicted by cryptocurrency trading bots. However, such scenarios can be incorporated into risk management by configuring trading bot algorithms to act in unforeseen circumstances.
Cryptocurrency trading bots make decisions based on technical indicators, the most common of which include:
- Moving averages (SMA, EMA, and their variations);
- Trading volume (Volume);
- Relative Strength Index (RSI);
- Moving Average Convergence/Divergence (MACD);
- Bollinger bands;
- Fibonacci levels.
For cryptocurrency trading bots, these indicators can be used individually or in combination to improve trading efficiency. In addition, the following parameters are most often involved when configuring cryptocurrency trading bots:
- Timeframes — time intervals for executing trades;
- Price levels, including take-profits and stop-losses;
- Order book data — buy and sell orders for assets.
At the second stage, cryptocurrency trading bots check whether market data matches the predefined parameters and generate signals for trade execution based on this analysis.
At the third stage, cryptocurrency trading bots automatically place an order on the exchange to buy or sell cryptocurrency when a corresponding signal is generated. Traders also set the amount allocated for buying or selling cryptocurrency during the configuration of cryptocurrency trading bots. However, it should be considered that if funds are insufficient, the bot's operation may be suspended.
It should be understood that cryptocurrency trading bots have both advantages and risks. The advantages of cryptocurrency trading bots include:
- Full automation, eliminating manual data analysis and trade execution;
- The ability to trade 24/7: cryptocurrency trading bots will execute trades even while the trader is asleep.
- Elimination of errors caused by emotional decision-making;
- High trading speed.
However, cryptocurrency trading bots also involve risks:
- Technical failures that may lead to losses;
- Errors due to incorrect configuration;
- The need to develop a proper strategy and follow risk management rules. Strategies may lose effectiveness when market conditions change.
- Potential security threats related to granting API access to trading accounts. Fraudsters may use such access to steal funds, especially if bots are allowed to manage withdrawals from the exchange.
To reduce risks, it is advisable first to test different cryptocurrency trading bots with small amounts and then select the most optimal option, provided that positive results have been achieved over a certain period (at least several weeks).