Wednesday, September 28, 2005

When to Adopt a Day Trading Strategy

Now that you have considered which stock trading strategy suits your personality and timeframe, let’s look a closer look at day trading. What is it? Is it risky? What’s with the bad reputation? Why would I want to day trade?

First, let’s just clarify that day trading by definition is simply entering and exiting a trade in the same day – a day trade. The phrase day trading became popular several years ago as people made and lost fortunes in the highly volatile market by stubbornly trading on margin when they were already losing large sums of money. This has tainted the image of day trading, which is actually a trading style designed to limit risk!

Day trading may be your choice of trading style if you have another job and cannot manage positions all day, or just cannot sit in front of your computer for hours on end. You may have a short attention span and enjoy a faster pace in your life, uninterested in patiently waiting for bigger moves to develop. If this sounds like you, then maybe a day trading strategy is what you need. Day trading is all about capturing small, incremental profits numerous times throughout the day rather than catching one lasting move. After all, you can turn a profit in the market by taking a small position and looking for a big gain, or you can take a bigger position and look for a small gain. The latter is what day trading is all about.

Because day trading timeframes are so brief, traders who day trade often pay lower commission rates due to the volume they generate with numerous trades. Brokerages like to be able to boast about the volume their traders generate, so they entice day traders with extremely low commission costs. This helps the day trader to overcome the cost of trading when looking for smaller moves many times each day.

Day traders will generally trade more shares per trade than they would if they were holding a position. This is not necessarily risky, as the day trader is immune from overnight gaps which may haunt the dreams of a position or swing trader. A day trader may be more willing to use margin buying power when the trade is only expected to last a short time and the sell button is right at their fingertips. This advantage helps a day trader achieve the same profit objective that a swing trading strategy can attain without requiring several days to capture it or taking on overnight risk. A lot can happen in the world between the hours when the market closes and the following morning’s opening bell, and day trading eliminates that exposure.

Knowing when to day trade is important, and market conditions should be favorable to such a timeframe in order to maximize your profit potential. Generally, when the market is spending many days in narrow ranges and volume is lacking, it is a better time to day trade. The tendency of the stocks during such periods is to make quick initial moves but then fizzle out because they lack the volume required to fuel a bigger move. The summer months are often this way, with many traders on vacation and stocks not moving much with the light volume the summer months often produce. Holiday weeks are often the same way, and day trading initial moves to capture quick profits can be a good way to continue pulling money out of the market during the times when long lasting moves are basically nonexistent. At times, the overall market may be range-bound while awaiting a decision on interest rates or a big economic number to be released. Day trading during these times is also usually a more favorable approach.

While there are day trading strategies which may work under many market conditions, the adaptive trader who is willing to shift trading timeframes can day trade when market conditions warrant such a mode of operation.

In part 3, we’ll take a closer look at swing trading and which conditions are suitable for a longer trading timeframe.

The Stock Bandit


Blogger BWV said...

stockbandit.. under Blogger settings, choose "enable word verification".. it makes commenters type in a short word from an image.. like Yahoo does when you sign up for a new email account..

it eliminates spam completely.

buck woodford

9:28 PM  

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