There can be a lot of confusion and misunderstanding surrounding the term "day trading." Some people think it's synonymous with gambling or a surefire way to lose money. Others believe that anyone can do it with effort and education.
So, what exactly is day trading? And is it something you should be doing? We’ll break down what day trading is and explore whether or not it's a viable option for you.
What is day trading & how does it work?
Day trading is buying and selling a security within the same day. You can day trade in any security, including stocks, options, and futures contracts.
A day trade is defined as any trade opened and closed within the same day.
Day traders typically enter and exit trades multiple times throughout the day, seeking to profit from small price movements.
A pattern day trader executes four or more day trades in a five business day period in a margin account. To avoid the PDT designation, traders must maintain a minimum account balance of $25,000.
Day trading can be a high-risk activity, as it involves holding a position for a short period of time. Day traders must be able to rapidly identify opportunities and make quick decisions, as even small price movements can significantly impact their profitability.
Day trading also requires a strong understanding of market conditions and an ability to handle many small losses throughout the day.
Overall, day trading can be a profitable way to make money if done correctly. However, it is essential to remember that it is a high-risk activity that is not suitable for everyone.
If you are considering day trading, do your research and understand the risks before you begin.
The benefits of day trading
Many day traders work from home and use their own capital to trade stocks, options, currencies, and other financial instruments. Some day traders work at proprietary trading firms and trade a portion of the firm’s capital.
Day traders typically hold their positions for a few hours, but sometimes for only a few minutes or seconds. Because of the short duration of most day trades, day traders do not have to worry about certain risks, such as those associated with holding a stock position overnight.
Holding positions for less time permits a day trader to have much higher leverage than someone who holds a position overnight.
Day trading generally involves taking profits immediately. A day trader can take profits as soon as a profit target is achieved.
In contrast, swing traders or position traders typically hold positions overnight and risk losing unrealized profits.
Another benefit of day trading is that many brokerage firms offer account holders the ability to trade on margin. Margin is a loan from the broker to the account holder, and it acts as collateral for the account holder's trades.
The use of margin can significantly increase the return on investment (ROI) rate for a day trader; however, it also increases the risk.
Day trading can also offer greater independence than other types of trading, as it does not require access to large amounts of capital.
The risks of day trading
While day trading has many advantages, it is also considered one of the riskier types of investing. The risks of day trading include:
- The potential for financial losses. Day trading can be volatile, and you may lose more money than you originally invested.
- The possibility of missing out on long-term gains. If you only focus on short-term gains, you may miss out on opportunities for more significant profits in the future.
- The lack of diversification. You often put all your eggs in one basket when you day trade. This can be very risky, especially if you don't have a solid plan or strategy.
- Stress and pressure. Day trading can be very stressful, especially if you're trading for a living. This can lead to burnout and poor decision-making.
- Time commitment. Day trading requires time and effort. If you're not willing to put in the work, it's not worth it.
You can mitigate these risks with proper planning, research, and risk management. If you are thinking about day trading, make sure you know the risks and are prepared to manage them.
How to get started with day trading
To start day trading, you need to understand the stock market and the individual stocks you will be trading. You also need to have a firm grasp on your financial goals and what you hope to achieve by day trading.
Once you have these factors in place, you can look for a broker that offers services that meet your needs.
When choosing a broker, you should consider a few things:
- The broker offers access to the securities you want to trade. Some brokers only offer access to certain exchanges, while others may only provide access to specific types of securities. Ensure that the broker you choose offers access to the markets you want to trade.
- The broker offers good customer service. You will likely have questions or need assistance. Make sure that the broker you choose has a good customer service team available to help you.
- The broker offers good trading tools. Many broker platforms offer software that can help you make better trades. Make sure the broker you choose offers software that meets your needs and that you are comfortable using.
- The broker offers good commissions. Day trading can be expensive, and you need to make sure that the broker you choose does not charge exorbitant commissions. Choose a broker that charges reasonable commissions.
- The broker offers good order execution. When you day trade, you will be placing a lot of orders. Ensure that the broker you choose can execute those orders quickly and efficiently.
- The broker offers reasonable margin rates. Make sure that the broker you choose offers good margin rates so that you can trade with confidence and reduce your trading expenses.
- The broker offers good account management tools. Day trading can be very chaotic without a high level of organization, and you will need to have a way to manage your account.
- The broker offers good research tools. Ensure that the broker you choose offers the research tools you need for your trading plan so you can trade with confidence.
Day trading tips for beginners
- Do your research. Before you even think about day trading, make sure you understand the market you're planning to trade. Do your homework on the stocks you plan to buy and sell.
- Have a plan. It's crucial to have a solid trade plan. This will help you make intelligent decisions and not get caught up in the emotion of live markets.
- Start small. Position sizing is critical. When you're first starting, it's important to trade small amounts of capital. This will help you get a feel for the market, your emotions, and how your plan works before you start putting more money at risk.
- Be patient. Day trading can be a volatile and stressful business. It's important to keep a cool head and not make impulsive decisions.
- Set limits. It's essential to set limits for yourself before you start trading. Determine how much money you're willing to lose in a day and stick to that number.
- Take breaks. Day trading can be mentally and emotionally taxing. Make sure to take breaks throughout the day to clear your head and relax. Walk, stretch, or exercise to stay mentally sharp.
- Find a day trading chat group. There are many websites and forums dedicated to intraday trading. Find one that suits your personality, plan, and goals, and learn from others.
Day trading can be a great way to make money, but it is also very risky. There are many successful day traders. However, there are many failed day traders, and you have to make sure you understand the risks and how to minimize them before getting started.
If you decide it is right for you, start slow, start small, and use these tips to help you get started on the right track.