Day Trading Guide: Here is What you Need to Know

Day traders now turned into one of the most important components for stock markets because they now attained a market-moving power, thanks to technological innovations and social media forums.

Day traders sitting on social media platforms like Reddit, Twitter, and others have successfully won a tug of war against the big hedge fund managers in 2021 who are shorting few stocks. Communicating through social media posts and videos, they have successfully pushed GameStop (NYSE: GME) and other highly short stock prices thousands of times higher in a matter of few days, resulting in billions of losses for hedge funds like Steven Cohen and D1 Capital.

The brokerage’s data also suggest that retail investor’s interest in stock markets is at a record high. Online brokers have added millions of new customers in the last year despite historic volatility.

Zero trading commissions, low deposit requirements, fractional trades, along with record market volatility permitted incumbent brokers like Fidelity, TD Ameritrade, Charles Schwab, Interactive Brokers, and E-Trade to capitalize on a new class of retail investors.

JMP analyst Devin Ryan said:

If you went back to last October and looked at expectations, many market observers expected trading-related revenues would fall off a cliff. It was the inevitable outcome of this kind of constant pressure on trading pricing. What we have seen is that revenue has been quite resilient in addition to ushering millions of customers into the industry.”

Retail investor’s new brokerage accounts opening stood around 10 million in 2020, according to JMP Securities estimates.

Introduction to Day Trading

The day trader, which is also called an intraday trader, deals with buying and selling securities. A pure day trader does not hold any position open at the end of the day. Those traders who hold positions in securities for more than one trading session are called swing traders. However, the majority of day traders use both approaches based on the market dynamics. Day trader usually requires trading software along with a high-speed Internet connection, as they make gains by investing in options that have an expiry time as low as five seconds.

Day trading is quite difficult compared to other investing styles such as value, growth, and dividend investing. Day traders don’t run behind dividends, they purely invest in stocks with an aim to generate gains from the daily price movement.

Although fundamental aspects also have significant importance in day trading, a strong understanding of technical indicators along with the ability to interpret price and charts is necessary to maximize returns and decline losses.

The most common indicators include support and resistance levels, volatility, moving average convergence/divergence (MACD), price oscillators, and Bollinger Bands. Although having big funds is vital for day traders to capitalize on profit-making opportunities when they appear, day traders can invest as low as $1 in stocks or other securities, thanks to technological innovations and the emergence of binary options. To become a successful trader, investors should have to develop techniques that help in determining entry and exit points.

Due to insufficient techniques and less understanding of price patterns, the rate of success stands below 50% in day trading. Thus, day traders should do professional training, refined skills, diligent research, great discipline, and the aptitude to confess mistakes and decline losses.

Characteristics of a Day Trader

A day trader doesn’t make their bets on “guesses.” Instead, they exchange hard information. They set rules for the amount of their risk-taking potential, the amount they will lose on each exchange, and when they will take a benefit.

  • The Potential to Take Risks

There is no uncertainty about the dearness of day traders. In any case, since they are daring, it does not mean they are thoughtless. Keep in mind the familiar saying, “without taking a chance, the potential for reward is low. Although stock market investing is riskier than other investing platforms, day trading opens up significant risks.

  • Determination

Day traders should always need to get proper education and training. Numerous traders will lose cash in the first bet, and many will simply surrender their trading plans after the first loss. It’s important to remember that losses are part of the game. What is essential is that you utilize the losses as a learning process and build up a set rule for yourself.

  • The Capability to Manage Stress

Losing money can cause big stress for day traders and investors. Day traders on a daily basis face uncertainties and stress due to their risky trading style. Having the capacity to oversee pressure and not let it influence your trading strategies is key to become a great day trader.

  • The Aptitude to Manage Emotions

Emotions kill trader’s potential to manage risk and maximize returns. Don’t always trade based on your emotion, always trade on facts and figures. Effective traders work on a specific arrangement of guidelines that are guided by numbers and math. On the other hand, day traders start objecting to their strategies and set rules after experiencing several losses in a row. When they have lost excess cash, their sense of self flattens and they start to scrutinize each exchange.

  • Decision Making

Day traders usually have a very short time to make and execute their decisions. These investors should settle on choices immediately. The postponement in taking a position in a company or selling that stock could mean thousands in losses. So the capacity to make instant decisions is amongst the most imperative qualities of day traders.

A Proven Strategy

Day trading involves several sets of strategies to execute trades. There are a few unique methodologies that these investors can use, including arbitrage, swing trading, and trading on good and bad news, among others. These procedures are refined until the point that they create predictable benefits and adequately confine losses.

Some traders are so anxious to start trading and making big profits from these trades after reading about the strategy that is supposed to offer bigger returns. Some of the traders hop in and begin giving it a shot with genuine cash. It is very important for day traders to test the strategy by applying different market conditions to understand the qualities and shortcomings of a procedure before utilizing it with real cash. They can do this through demo trading.

  • Short Time Frames Make Fundamental Analysis Irrelevant

The day trades expire within a single trading session and sometimes the trade expires within 5 minutes. Therefore, investigating the company’s strategies and the market environment will have an impact in the following quarters.

Anything can occur since the share price is continually moving in both directions. Day traders don’t need to understand the financials of the stock they are trading, as this could lead them to make poor decisions. Instead, investors should focus on the technical analysis of the stock and give more importance to studying charts, patterns, and trends.

  • Fundamental Analysis Does Not Increase the Profit Potential

Fundamental analysis is irrelevant in day trading. A day trader should mostly focus on studying graphs and trading patterns to execute the trading plan. Day traders believe that looking into how terrible or great an organization is doing creates biases in the trading decisions, as day trades depend on daily market news and market sentiments.

The value of the stock lets day traders know precisely what the stock is doing at any given time. By breaking down the value graph, day traders can discover investment opportunities in light of their trading plan.

  • Chart Analysis is Important than Fundamentals

Stock charts have significant importance in day trading and investors use different types of charts such as candlestick charts to predict the trend and the potential short-term movement.

Day traders don’t have to stress over where the stock price will stand in the next two months. However, day traders use different strategies, charts, trends, and patterns to predict where the price will stand in the following few minutes or hours. Rather than perusing financial reports, day trading requires investors to hone their graph reading abilities and executing their plan.

  • Day Traders Focus on Short-term Strategies than Fundamentals

Having several set strategies for various economic situations is a critical factor for day trading. Trends emerge, reverse, fade and ranges build up and they all are creating in ever more extensive ranges and patterns and, all this happens inside a single session.

Day trading strategies are usually categorized into three kinds of classes: trending, scalping, and ranging.

Strategies that are used to take advantage of a continued shift in one direction are called Trending strategies. Scalping involves all those trades where the day trader is seeking to capitalize on a profit on order flow, for example collecting ECN credits, making the spread, or riding the coattails of a large order. Finally, day traders use ranging strategies in circumstances when the stock prices are moving in both directions amongst support and resistance levels. Day traders usually make profits if they have a range of trading strategies.

  • Use Strategies According to the Time of Day

For days traders, the morning, afternoon, and evening sessions are different in terms and all three sessions require day traders to adopt different strategies.

Morning hours are always considered risky, as the stock makes big movement in these hours. This means that investors need to adopt trending types of strategies. The afternoon session is frequently considered a quieter time. Stocks are likely to trade in ranges in these hours and their trading volumes decline and moves become smaller. Finally, volumes and moves become larger in the evening session.

How and When to Shift Strategies

Establishing strategies for the different times of the day is quite difficult. Investors need to focus on when the market trends are changing and adjust trading strategies according to that.

  • Identifying Entry Points

Avoiding fundamentals and finding attractive entry points using different technical strategies, charts, trends, and patterns is more important for investors. To think of Entry Rules, investigate the company stock price chart, 1-moment, and 5-minute. Search for huge or trending shifts in order to find extraordinary benefit potential. Is there any candlestick pattern that started the move? Does an indicator has flagged a section point? Is there a general pattern, which given affirmation of the flag? Are graph designs present, for example, a triangle, banner, head, and shoulders design or pattern? These are inquiries to consider while evaluating how to enter a position.

  • Exit Points

Day traders should at least have a methodology to exit both losing and winning trades in order to maximize returns and minimize losses.

For this purpose, day trader uses a stop-loss order to reduce the portfolio volatility. Although for long-term positions, investors use a stop loss beneath a current low, stop-loss orders for short positions are usually set at a current high. This is defined as how well you can control the risk on the trades. There are numerous approaches to leave a winning position, including profit targets and trailing stops. Day traders mostly use profit targets in order to take a benefit at a pre-decided level.

  • Tying both Together

Once you know how you enter trades and where you’ll put a stop loss, you can evaluate whether the potential procedure fits inside your risk management. In the event that the technique uncovered the day trader to an excessive amount of risk, the methodology needs to be adjusted somehow to lessen the potential losses.

In the event that the strategy is inside your risk capacity, at that point testing starts. Day trading always doesn’t succeed. Numerous day trader’s win rate stands below 50%. It’s important to ensure that the risk day trader is taking on is restricted to a particular level.

Siraj Sarwar - Lead Analyst
@tradethedayfx
Siraj Sarwar has been performing analysis on the stock market, equity research and general business consultation. He regularly contributes articles on economics, commodities, and equities to the world's leading websites, including Trade the Day, SeekingAlpha, TheStreet, and MSN.
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