What is Day Trading Exactly?So you answered YES to all of the questions from the beginning of the day trading series and you still want to learn how to day trade? Ok! However, you don’t know what it is or what it entails and you need to know the answer to the question: what is day trading exactly? Good question! I am going to answer that plus I am going to go a bit further. In addition to answering what is day trading, I am going to discuss the various strategies, rules, risk, advantages and disadvantages of becoming a day trader.
What is Day Trading?
It’s not too hard to imagine that the definition, day trading, is the act of buying and selling one or more stocks within a single trading day. That means that absolutely no position, either long or short, is held overnight. If you hold a position after the market closes you have moved from day trader to swing trader.
Day Trading Infographic by Suretrader
Before considering a day trading path/career you need to recognize that there are 6 elements of Day Trading and each of those elements are taken seriously by the professional day trader. Each trade that is taken should have gone through each stage at some point before the trade is actually placed.
#1 Find Your Strategy
What is day trading without a strategy? There are several strategies that day traders use but it’s normally best to find 1 or 2 strategies that work for you and stick to them. Trying to learn every strategy is like trying to learn how to play all instruments in an orchestra. Find 1 or 2 day trading strategies and master those.
Gap & Go
Stocks that “Gap” up in the pre market sometimes continue or “Go” beyond their pre market high right as the market opens causing the stock to go even higher than its original pre market gap price. This is a long or bullish strategy that usually happens in the first 15 minutes after the market opens.
Gap & CrapStocks that “Gap” down in the pre market sometimes fall below their pre market low. If selling pressure builds at the market open traders can take advantage of the stock making new lows. This is a short or bearish strategy that usually happens in the first 15 minutes after the market opens.
Opening Range Breakout
This strategy is similar to the Gap & Go strategy but isn’t as fast and furious as the the former. It can work on various time frames and usually happens (if at all) in the first hour of trading. This is a long or bullish strategy.
Opening Range Breakdown
This strategy is similar to the Gap & Crap strategy but isn’t as fast and furious as the the former. It can work on various time frames and usually happens (if at all) in the first hour of trading. This is a short or bearish strategy.
Trading momentum is a day trading strategy where traders focus on stocks that are moving with volume in one specific direction. A momentum day trader might hold their positions for a few minutes, a couple of hours or the entire length of the trading day. Once the momentum or direction changes the position usually gets closed out. This can be a long or short day trading strategy.
Top reversal day traders use this strategy to short a stock that might have put in the top or highest price of the day. This strategy is usually only used with stocks that have high relative volume and have gone unusually high for the day.
Bottom bounce day traders use this strategy to long a stock that might have put in the bottom or lowest price of the day. This strategy is usually only used with stocks that have high relative volume and have gone unusually low for the day.
Advanced day traders will look to short a stock that surges exponentially and at an unsustainable rate using various indicators to help them make a less risky and profitable trade. This is much faster than a top reversal strategy and can set up in minutes. This is an extremely risky but highly profitable strategy if done right.
Day traders who spend the entire day at the computer might learn about breaking news that moves a stock price in 1 way or the other in a very fast and volatile way. Breaking news traders will use key indicators such as, charts, resistance, support and low and high of the day to guide their trading. This is an extremely risky but highly profitable strategy if done right. Breaking news does not usually happen everyday so this strategy is usually accompanied by other more frequently used strategies.
#2 Finding Stocks to Trade
All day traders need to find stocks to trade but not all day traders trade everyday. Day traders find stocks from chat rooms, scanners, Twitter, Stock Twits and possibly even TV. However, you always need to remember, if there are no stocks in play there are no stocks to trade. With that said, there are 3 criteria to finding tradeable stocks.
5% move or more
Most if not all day traders look for percent gappers to add to their watch list. 5% is probably the average but the key is that there was a change in the percentage that is different from the day before. If a stock hasn’t gapped it won’t appear on day trader’s scanners. If it doesn’t appear on their scanners there won’t be any eyes on it or volume in the stock to trade.
There has to be a reason a stock is moving to cause more movement one way or the other. Positive earnings, a contract win or insider buying are some of the catalysts that day traders look for. If the catalyst is big enough traders will keep an eye on it throughout the day.
Volume is the most important. If there is no volume in the stock then day traders aren’t watching it. Think of volume like people at a party. If you are at a party and only 2 or 3 people are there you will be bored and be tempted to leave quickly. If there are hundreds or thousands of people at the party you will have a much better reason to stay around to see how good the party will be. On the contrary, too much volume or too many people at a party can cause overcrowding and lead to problems.
#3 Build a Watch List
Some people build their watch list at night but not me. I build and post my watch list every morning and use the information from my personal stock research tool to help guide me to make a trade. If you are thinking of becoming a day trader you need to have a watch list of stocks so your attention is focused on the list that you created. Most stock market gurus share their watch list with their subscribers but you should never follow someone else into a trade or you will lose out in the long run.
#4 Look at the Chart
After you have built your watch list you must chart out the stocks to see where the resistance and support is. You also need to see if there is any volume in the stock. Remember a stock with no volume doesn’t get added to the watch list and if people aren’t watching a particular stock then there won’t be any volume in it to move it. If there is no movement there is no trade. I know I sound like a broken record but that idea is so important that it deserves another mention. Anyway, if you build your watch list at night you can chart out your stocks to prepare yourself for the next trading day. Charting is extremely important and is somewhat of an art form once you become proficient in it.
#5 Plan Your Trades
Imagine you are driving to a house where you have never been before to go visit a friend. You have the address to where they live but have no idea how to get to their home. In a situation like that you either ask your friend for directions, use a map or have a gps guide you successfully. Day trading should be thought of in the exact same way. You must plan the road map to your trades so there is no confusion as to what to do. If there is no plan there is no trade.
Here is how specific you need to be when planning a trade.
If XYZ goes to $9.91 I will buy 1000 shares looking for the break of $10. I will sell half at $10.09 and the remainder at $10.20 because there seems to be a lot of resistance at $10.20. If I am wrong and XYZ goes immediately against me I will bail out on my entire position at $9.75.
The above is pretty specific and that is how I plan my trades. There is never any confusion on my plan because it is written down. Even though doubt and wishful thinking want to creep in and control my trading, I follow the plan.
#6 Set Your Risk
There are several forms of risky behaviors that people showcase in day trading but setting your risk before you place the trade is the only way you will successfully know exactly what you are prepared to lose and potentially make. Here are the various ways people display risky behavior.
If you want to know what day trading is NOT then just wing it and you will find out the hard way. A person who makes a trade without knowing anything about day trading is just stupid. This is the most risky behavior of all and should be avoided at all costs.
Following your stock market guru is not as risky as winging it but it is a very close 2nd. If you have to rely on following someone’s trades and (for whatever reason) something goes wrong with the lines of communication you can lose big. Never follow even though it is extremely tempting to want to do.
Learn as you go
As you get more knowledge about day trading and the stock market you might place a small trade and either take a loss or a win. You might be independently trading or following but you are only risking small amounts to test out the trading waters. This type of behavior is not recommended as you will take unnecessary losses that might deter you from learning and trading successfully. However, the experience of trading with small risk involved will help educate you as you learn and grow.
Set your risk
Plan your trades and set your risk. This is the best way to day trade. Period! Remember you need to be specific about exactly how much you are going to trade, how much capital you are going to use and how much you can possibly lose. Here is another example on how specific you must be to set your risk.
I am going to buy 1000 shares of XYZ at $19.89. I will sell half at $20.10 and hold the rest until $20.25. If the stock starts to look weak I will bail on my other half of my position at $20.01. If I am completely wrong from the get go I will bail out of the entire position if XYZ goes as low at $19.75.
The above example is still very specific and there is no confusion about what to do and when to do it. If my price isn’t reached I don’t make the trade. Let me say that again. If my price isn’t reached I don’t make the trade.
Advantages of Day Trading
- There are approximately 252 days the stock market is open.
- You can trade anywhere in the world as long as there is internet.
- You are the boss and you control the hours you work.
- You could make a substantial amount of money.
- You can start immediately. (NOT RECOMMENDED)
Disadvantages of Day Trading
- 95% of all traders fail and 80% of day traders quit within 2 years.
- There are a lot scams, misrepresentation and lies that will confuse you.
- There are a lot of hidden costs that isn’t mentioned.
- Taxes are a pain in the ass.
- Trading is tough on your emotions.
- If you fail there is a big loss of time and bigger loss of money.
Final ThoughtsSome people disagree with me but, in my opinion, you need more than one source of income. I trade, blog and do corporate photography. All 3 make me money and if one is slow I have the other 2 to back me up financially. The name of this game is to make money and if you can do it solely through trading then I applaud you. However, be very careful making money through a trading mistake and not accepting that you made an error but got lucky making money while you were trading. The reason I mention this is that making a mistake and profiting teaches you to make the same mistake again and again until one day you become complacent and get taken out of the day trading game altogether. Day trading is tricky and there is a lot of misconception and misrepresentation all over the place. In essence day trading is very dangerous if you don’t follow the rules, have a plan and set your risk. If you don’t believe me just ask Joe.
Some of the links in this post are from my sponsors. I thought you should know because honesty is better then sugarcoated bullsh*t.