Day Trading – An Introduction

Last Updated August 20th 2021

8 Min Read

Trading is a profession that is quite demanding and also has the potential to be both rewarding and with its fair share of risks. Day trading can be a good representative in underlining these facts more than other forms.

For anyone interested in taking up day trading, surely it is important to understand this trading form thoroughly before taking the plunge. This article should provide you with a good introduction to the world of day trading.

What Is Day Trading?

There are many forms of trading and these, fundamentally, vary from each other by the duration in which trades are held. Each form of trading comes with its own challenges and rewards and one way of understanding them is by the duration of the position held in a trade.

While position trading lies at the extremely long term duration spectrum with positions held for months and even years, swing trading lies in the middle with trades lasting from days to weeks. Day trading, however, has the shortest duration where any position opened has to be closed on the same trading day. In short, a position taken during a day cannot be carried overnight.

Day trading, therefore, is heavily dependent on the trends and patterns of the movement of the price of a stock. It is less about the variations on account of the actual valuation of a stock and more about the volatility in the market that causes changes in the price. Traders seek to exploit these movements in price to attempt gains by taking positions and liquidating them by day end.

Typically, day trading involves multiple trades throughout the day where there is usually both profits and gains. Ultimately, day traders seek to end the day on an overall positive balance from all these positions.

Defining A Day Trader

So, does the form of trading make the trader any different? Well, while all traders are in the market to make profits from buying and selling stocks, a day trader is surely different from a swing trader or a position trader.

The main focus of a day trader is the short term movements in the prices of the stocks he follows. Unlike a trader with a longer-term trading window, he is not interested in the fundamentals of the company or the inherent value of the share price.

While many individuals have today entered the arena of day trading, day traders earlier used to be mostly on the payroll of banks, mutual fund companies and investment houses.

Check Out: 10 Steps to Becoming a Day Trader

What Can You Day Trade?

Forex
Stocks
Cryptocurrency
Futures
Commodities

What To Understand About Day Trading

Given the fast-paced nature of the trading and the short window of holding a position, day trading has a very different set of challenges and opportunities when compared to the longer duration forms.

Risk

There is bound to be a risk in any profession that requires innumerable decisions to be taken spontaneously. It is all the more real in the world of day trading.

It is absolutely critical to have risk-mitigating measures like sticking to a maximum exposure per trade, which should be, ideally, not greater than 1% of your capital. Also, stick to planned entry points and having a stop loss and adhering to it.

High levels of knowledge (process, terminologies)

Like any other function in the financial markets, trading requires high levels of knowledge. Day trading too demands a thorough grasp of both the concepts and the practical side of the profession. It is important to know what influences the market, where it stands at the moment of trade and where it is headed. Also, knowing all about the various industries and the stocks that you are following is absolutely essential to make informed decisions of buy and sell.

Ability to analyse data (technical analysis)

Day trading relies on technical information as the duration of holding on to trade is very short and the price movements are based on trends and patterns. Unlike long term trading, there is lesser or no dependency on the company’s fundamentals.

Strategies

Any trading requires planning and strategy but day trading, given the much shorter window for making and closing a position demands a complex and unique set of strategies.

These can vary from trader to trader and will depend on the prevailing market conditions and the risk tolerance levels of the individual. It may even be a combination of multiple strategies that work on any given day. Here are some of the more prominent ones used in day trading.

Scalping: Day trading is about multiple trades throughout the day but scalping can be even busier. Scalpers continuously take several positions in a day that they hold for very small periods, including minutes or even seconds. The spreads are often quite thin but the numerous trades make up for this, especially if the day ends with overall gains.

Momentum trading: A popular short-term trading strategy, momentum trading is all about taking advantage of an upward or downward trend. Here, one has to capitalize on the market volatility and then take positions in the direction of the price change.

Contrarian trading: Contrarian trading, on the other hand, is one that goes against the prevailing market sentiment by selling when others buy, and buying when most investors sell.

Range trading: Range trading sees traders going both long and short depending on the position of the price within the range. This strategy involves recognizing a range at which the investor buys and sells over a short period. This strategy is most effective when the forex market does not move in a direction and is the weakest during a trending market.

News based trading: News based trading strategy is based on the news and information that will drive the asset prices. Here, the information may come in the form of press releases, company announcements, and economic announcements related to interest rates. Here, traders need to assess the news immediately after it is released and make a quick judgement on how to trade it.

High-frequency trading: High-frequency trading uses complex algorithms to scan markets for trading opportunities. Mostly carried out by investment banks and hedge funds, this automated trading system, with the help of powerful computers, analyses markets to buy/sell shares within seconds.

Pattern breakouts: Pattern breakouts are often viewed as a trading opportunity by day traders. The strategy is to wait for a breakout to occur and set up a trade in that direction and close the trade near the computed price objective. There are a number of breakout patterns, such as triangles, flags and pennants, etc.

Don't Miss: 10 Day Trading Strategies for Beginners

How To Get Started In Day Trading

In terms of the tools of the trade, those that come in handy for day trading include the following.

Intermediary: Of course, having a broker is the first step. He is the one who will be your middleman and the link between the markets. Look for a reputed and reliable name who can also offer a good package that includes low fees and high support.

Trading platform: A versatile and comfortable trading platform is a non-negotiable infrastructural need for a day trader. It is best to try out a few of the best and most popular before settling on your preferred one.

Hardware: Having your own hardware setup is a basic requirement. All you need is a fast and dependable computer. A second monitor may come in handy to follow the action but is not essential. You should have infrastructure that will ensure an uninterrupted power supply.

Connectivity: Needless to say, you will need a really fast and dependable internet connection that will never let you down. Opt for a package with, preferably, generous speed and data limits.

News and updates: Having a constant stream of information and data is a must. This should include news, updates and insights alike. Also, getting technical analysis, trends and patterns make your arsenal complete.

How Can You Succeed At Day Trading?

Based on the above, here is a sum-up of what is required to be successful at day trading.

Understand the genre: Day trading is difficult and may not suit everyone. Understand the pressure points and the risk levels as much you would be attracted by the challenges and the upsides.

Be knowledgeable: All trading require high levels of knowledge and an ability to interpret data and analyse to take measured decisions. Know the market and your stocks inside out.

Allocate funds: You must be armed with adequate funds as there is a daily settlement and the real possibility of losses happening.

Make small beginnings: Start slow and modestly enough to get a grip on everything. Where possible, try out simulations before entering the real trading world.

Devise a trading plan: Have a plan always in place. Day trading may look like a lot of fast and random action but success will come only to those who devise a plan and work to it.

Prepare for the risk factor: It is a risky domain and there is no getting away from it. Stick to the proven measures like having a cap on exposure per trade and stop-loss, besides other best practices.

Temper your expectations: It is one of the most difficult types of trading and even the best decisions can fail due to the volatility and the tiny window of holding. So it is wise to have a realistic expectation of the gains. On average, even good traders manage to succeed in only about 60% of the daily trades.