First things first – day trading is not the same as investing. As the name suggests, it basically means entering and exiting the trade on the same day, one or multiple times. It is a very risky game for newbies and requires a very well sought out strategy in order to make it work.
“Trading in stocks, commodities or currencies entails initiating a buy or sell position and closing that position by way of profit or loss over a period of specified time. However, in day trading, the trader initiates a long or short position and has to close the same within a short span of the trading day. He or she will be executing various positions during the course of the trading hours for that particular session with the key objective of closing all positions before the day or trading session ends,” pointed out Amar Singh, Head Advisory, Angel Broking.
Who is day trading meant for? To answer this question we must first understand what day trading requires. “Day Trading requires continuous monitoring of the movement of stocks and indices in the market. As and when profit is captured on the intra-day movement of stocks and indices, they need to close their position(s) of stocks and indices immediately,” said Pritesh Mehta, Senior Vice President, YES Securities.
Day trading is something which requires a lot of knowledge and practice. Mehta said that professional and certified traders with an understanding of stop loss, risk-reward ratio and other concepts tend to excel in day-trading. “This activity requires dedication and focus from individuals; they also need to make decisions on their toes. Any individual with zero or little understanding of equity markets should refrain from day-trading. They should ideally invest in mutual funds through the SIP route,” he added.
Arun Kumar, market strategist, Reliance Securities, emphasised, “Day trading is a full time business. It requires good planning, excellent money management, immense concentration, strong discipline and most importantly the ability to execute the trades on time. These are some of the basic requirements to become a day trader.” Although not everybody’s cup of tea, it is one of the most demanding professions as it saps one’s energy emotionally, when carried away with the profits or losses.
Can a retail investor get into day trading? To this Singh replied, “Yes, a retail investor can get into day trading provided he understands the basics of day trading, has a defined set of rules for trading and importantly, should have the time to monitor his trades. If day trading is compared to Investing, then day trading is equivalent to flying a plane over tree tops whereas investing is flying at 35,000 ft. Day trading requires extreme alert reflexes.” Day trading is thus much riskier than investing and is not advised for the faint-hearted.
Think of any professional field like doctor, engineer or an accountant which requires years of study before acquiring a degree. Trading also demands equally immense dedication in terms of time and constant recalibration for acquiring all the required skills to succeed.
Therefore, day trading is not something you can get into just for the heck of it. Or, because you want to earn some quick bucks. It is a completely different ball game all together.
Day trading is a serious full time business and has to be approached with the same intensity as one would do any other business. “The trader has to plan his financial goal, work on the likely return on his investments and how to address the losses, which will be part and parcel of doing any business,” said Kumar.
He further added that the day trader has to choose different strategies for different and evolving market trends. There are plenty of good books off the shelf, which talk about how to plan and day trade. One has to go through various methodologies and zero in on the few, which suits the trader’s basic belief. These methods have to be a dry run in terms of paper trading to ensure that most of the rules set for trading are taken care properly. Once all key factors, in terms of finance, trading software, tools are properly set and synced, the day trader can test the waters with a small exposure and gradually increase the positions as the confidence to trade increases.
Kumar laid down some of the strategies; The primary strategy for a day trader is to understand the movement of the prices. They need to identify the most profitable setups and patterns which work during bull, bear and non-trending market phases. Then the trader has to see what works for him and adapt the set of strategies accordingly. There is no one holy grail strategy which always works. Essentially the trader has to first understand the primary undertone of the market and see how and in which direction most of the stocks are heading. He or she needs to see if the stocks behave in line with the overall trend or do they move in the opposite direction. There are many more factors to be considered, like individual behavioural psychology and self-beliefs, which should be taken into account while following any strategy. In short, the trader has to select and modify strategies which suit his individual market beliefs.
When choosing stocks for day trading, liquidity is the most important factor to consider. Liquid stocks are easy to trade as they have large trading volumes, so one should consider liquid stocks for day trading. It is also important to choose stocks that are volatile enough, in order to have a chance of moving substantially during a trade. An indication of stock volatility is its beta. A beta of more than one indicates that the security will be more volatile than the market. There are a lot of other factors and technical details, which a day trader considers before selecting the stocks.
Now, we will see how one can make profits from day trading. “Staying true to a trading strategy is essential to generate profits in short-term trading. Applying some of the technical strategies could reward any individual looking to trade for a long period,” stated Mehta. However, since the stock market is dynamic in nature, a trader should keep adapting, upgrading his style or strategy in order to earn profits.
Day traders need to formulate certain rules with regards to the amount of capital to be employed, how much money to allocate per trade, entry and exit zone along with the frequency of placing trades per day. Further, to make day trading a profitable profession, the trader needs to believe in himself and consistently execute the planned strategies.
“There will be phases of profits and losses. It is how well the day trader can handle his or her emotions during the losing phase will see the trader make profits in the long run,” said Kumar.
As mentioned earlier, some traders learn quickly and emerge successful, while some are late bloomers. A sound risk management (money), consistently executing the planned trades and setting aside emotions while trading is the key to making profits. “It is also important to have a proper money management or risk management plan in place, which will protect the trader against sharp adverse moves. Lastly, trade only when you feel well. Never trade if you are angry or upset. Learn to be a Day Trader and not a Daily Trader,” said Singh.
We will now look at some of the common mistakes day traders should avoid. A day trader should not be unprepared. Day trading is not about luck or getting rich quickly. Do not hurry into day trading. On the other hand, do not quit quickly.
As mentioned above, one needs to invest in proper tools, software and educational resources. Not having the proper tools can prove to be a costly mistake. Also you need to remember that there is always the chance of loss. Even if you have made profits on a certain day, it is not guaranteed that you will make profits next day.
So you should trade according to your risk appetite and keep potential losses in check. Potential gains are very lucrative, but one must not get carried way.
Another mistake many day traders tend to make is to mimic other successful traders. They will simply follow the trading suggestions of some service, which provides such alerts. While they may be useful, you should focus on developing the skills yourself.
Day traders may they also suffer from a sunk cost fallacy. Often they buy a stock and hold on to it, just because you have invested time and money in it.
Nobody likes losses, but there may be times when you need to cut your losses early. This brings us to another mistake that day traders tend to make.
They need to set limits and stick to it. The idea is to set a maximum amount you are willing to risk and not go overboard.
anagh@outlookindia.com