Day trading has grown in popularity particularly in the past year as more and more individuals sought financial freedom and the ability to live life in a way that is meaningful and fulfilling to them amid the global coronavirus crisis.
The surge in amateur day traders has helped to create a record number of new accounts at brokerages like Robinhood, TD Ameritrade, and Charles Schwab (NYSE: SCHW).
Such small-scale traders now account for a fifth of overall stock-market trading activity, according to some estimates.
In this article, we will dig deeper into the main benefits and downsides of day trading to help decide whether day trading is the right thing for you.
What Is Day Trading?
Day trading is one of the most common trading styles that is used by traders around the world.
This speculative trading style involves opening single or multiple trades during a day and exiting them by the end of the current trading day.
Simply put, day trading is the act of buying and selling stocks on the same day, based on price fluctuations.
Example
If you open a new position at 8:45 a.m. and close it by 2:00 p.m. on the same day, you have completed a day trade.
If you were to open the position and fail to close it later that same day, it would not be considered a day trade.
Unlike in position trading or swing trading where trades are held for weeks or days, day traders can immediately analyze their trading performance by the end of the day.
Day traders generally spend over 2 hours every day to watch short term price movements and trade setups. They use advanced charting systems that are plotted by 1, 5, 15 or 30 minute intervals.
Pros Of Day Trading
Under the right circumstances, day trading can be an amazing career option with plenty of benefits. Let’s take a look at a few of them.
However, this line of work isn’t for everyone. Successful day traders need to be self-motivated, disciplined, levelheaded and financially independent.
If you’re thinking about pursuing a career in day trading, compare your own personality profile against this list of key characteristics and personality traits.
- You are your own boss
To begin with, most day traders work from home and don’t have hard-nosed bosses telling them what to do at all times. Even better, successful traders may earn enough money to live life comfortably.
They simply stay on task during trading sessions and commit to intensive preparation and research sessions. After settling upon a profitable strategy, they stick with it until it no longer works.
- Day trading provides you an opportunity to earn a comfortable living
There are not many things that can equal the emotional high that comes with a sweet profit achieved solely by the effort of a single individual.
As a day trader, you have the opportunity to make a great living, provided that you have a well thought out strategy, understand the inner workings of the financial markets, and can afford to take the risk.
For example, on March 7, 2015, an options trader raked over $2.4 million based on a single news wire in just 28 minutes.
According to CNBC, the trader executed the trade after a respected Wall Street Journal reporter tweeted at 3:32 pm that Intel (NASDAQ: INTC) was holding talks to acquire Altera.
Shares in Altera began to shoot up, so much so that the stock was halted after only three minutes at 3:35 pm. But within that short time period, the trader was able to place a bid for 300,000 Altera options at $36 a share.
At the closing bell, Altera shares were up $44.39 helping the trader to make more than $2.4 million.
Granted these types of gains are not normal and shouldn’t be expected especially if you’re just starting out. But it is possible.
You can also make or lose more money by utilizing leverage i.e., money that you borrow from your broker to in order to trade more, which most day traders use.
- A variety of trading strategies
Day traders has several trading strategies they can use to trade across all major markets. Some of the most popular day trading strategies include trend-following, breakout trading, and counter-trend trading.
- Overreaction to news
Markets consist mostly of humans, and they tend to overreact to news.
This is why you will see big price moves when certain news is released. Day traders often take advantage of that behavior and squeeze out extra profits.
Volatility is what day traders look for.
Cons Of Day Trading
Day trading can be rewarding, but it also carries a high risk. First, there is never a guarantee that you will earn money.
As a matter of fact, the U.S. Securities and Exchange Commission (SEC) says that “day traders typically suffer severe financial losses in their first few months of trading.”
A good example is what happened in late January during the Gamestop Reddit mania that puzzled Wall Street and triggered federal scrutiny.
Shares of some heavily-shorted stocks including Gamestop (NYSE: GME) rocketed to record highs before plunging back to earth.
While some traders made a fortune by trading these stocks, those who failed to time the trade perfectly lost money.
Here are two other top risks in day trading:
- It requires capital
Day traders need to have the right computers and software to access the necessary financial information and spot the price variations.
The U.S. law also requires that day traders maintain a minimum of $25,000 in their trading accounts at the end of the trading day if they want to make at least four round-trip trades over a period of five days.
In addition, taxation can become a nightmare because you may acquire capital gains and losses when day trading various instruments available in financial markets.
- Success tends to be closely tied to the state of the current market environment
When the market is in a period where there is no huge upward or downward moves, day traders often lose their cash by churning their accounts and holding onto losers too long.
Bottom Line
Day trading can be rewarding. As said earlier, some people has gotten extremely wealthy in a short time.
However, this style of trading can also go all shades of wrong and tends to be stressful.
It is also risky. The kind of risk where you should only be engaging in it with money you are prepared to lose.
Therefore, if you want to begin day trading, you will probably need to do some planning and research.
Take it slow, find a mentor and build out a solid trading strategy that makes sense to you.