How to Day Trade

Day trading is the financial practice of buying and selling stocks, options, foreign currencies, futures contracts and other derivative instruments within the same trading day. This active trading cycle has most positions closed before the markets close for the trading day, hence the name day trading.http://www.sec.gov/answers/daytrading.htm

Day trading involves many approaches and techniques, including: range trading, scalping, price action, and trend following among others. The basic disciplines involved with this form of trading include the implementation of proper risk-reward ratios and sound management of the leverage utilized in all trades. A skill set including a knowledge of both technical and fundamental analysis of the markets and the correlations between them is required.

Day traders select a trading platform and broker to facilitate the trading. This is important as it affects bid-ask spreads, commissions paid, availability of pertinent and timely market data, as well as time of execution. All elements which are of supreme importance to a day trader.

This practice is consider highly speculative and can lead to large financial losses according to the U.S. Securities and Exchange commission. Trading on the NYSE requires following FINRA (Financial Industry Regulatory Authority) requirements. Accordingly, all "pattern day traders" are required to have at least $25,000 in a trading account. Day traders are only allowed to conduct trades in margin accounts.http://www.sec.gov/answers/daytrading.htm

There are two distinct forms of analyzing the financial markets, fundamental and technical analysis.

Technical Analysis

Technical analysis is a method of evaluating markets by analyzing the statistics generated by market activity, such as price performance and volume. In technical analysis the intrinsic value of a stock is not measured, but instead chart movements combined with other tools, such as indicators and oscillators, are used to identify patterns that can suggest future activity and establish good entry and exit points for trades.

Fundamental Analysis

Fundamental analysis is a method of evaluating a stock in an attempt to measure its intrinsic value by examining related economic, financial and other qualitative and quantitative factors. In fundamental analysis everything that can affect the stock's value, including macroeconomic factors (like the overall economy and industry conditions) and company-specific factors (like financial condition and management) are taken into account to establish a value for that stock which can then be compared to its current trading price.

Trend Following

Trend following works under the assumption that open trade positions which have been rising or declining steadily will continue to move in the same direction. A trend follower will have long positions on instruments which have been rising, and short positions on declining ones, in the expectation that the direction of the established trend will continue.

Range Trading

Range trading is a trading style in which positions are watched that have either been rising off a support level price or falling off a resistance level price. Under such a scenario, every time an instrument hits a high, it falls back to the low, and when it hits the low, it bounces back up towards the high. Such a stock is said to be "trading in a range" or "range bound", which is the opposite of trending. Range traders also look for moves outside of an established range, called a breakout (price moves up) or a breakdown (price moves down), and assume that once the range has been broken prices will continue in that direction for some time.

Scalping

Scalping is the fastest of all trading styles. Most positions in scalping are held only for minutes, if not seconds. It involves exploiting small price gaps in the bid-ask spread, quick profits are taken on small moves.

Price Action

Price Action traders rely solely on technical analysis, avoiding conventional and fundamental indicators to determine entry and exit points for their trades. They rely heavily on a combination of price movement, chart patterns, volume, and other raw market data.

Trading Off News

Trading off news has a basic strategy of buying a stock which has just announced good news, or short selling on bad news. News events often provide enormous volatility in price and therefore the greatest chance for quick profits. Determining the impact of the news is important in this strategy, as sometimes a stock will already have priced in the anticipated information to be released. Also, news that completely surpasses, or comes way below market expectations, can really have a an immediate impact on the price of a stock.

The purpose of day trading is of course to make a profit. We all know that the bigger the risk that is taken, so should the reward be bigger as well.

The risk/reward ratio is used to compare the expected returns of a trade to the amount of risk undertaken to capture those returns. This ratio is calculated mathematically by dividing the amount of profit that is expected to be made in closing the position (i.e. the reward) by the amount that the trader is willing to lose if the price moves in the unexpected direction (i.e. the risk).

Let us say that trader buys a stock at $50, and plans to sell it at $60. In the process, he is only willing to see the stock slip down to as low as $45, before selling it at a loss. If the trader is correct, and his stock reaches $60, he made a $10 profit, if however, he is wrong, he would sell if the price reaches $45 and suffer a loss of $5. The risk reward ratio for this trader is $10/$5 or 2:1.

Risk reward ratios vary greatly, depending on the individual trader, his trading style, his risk appetite, pain threshold for loss, type of instrument being traded, market conditions, etc.

The content in this page is not a substitute for professional financial advice. Please contact a finance professional before using the information presented here..