Day Trading: The Basics and How to Get Started

There was a time years ago when the only people able to trade actively in the stock market were those working for large financial institutions, brokerages, and trading houses. The arrival of online trading, along with instantaneous dissemination of news, has leveled the playing—or should we say trading—field. The easy-to-use trading apps and 0% commissions of services like Robinhood, TD Ameritrade, and Charles Schwab have made it easier than ever for retail investors to attempt to trade like the pros.

Day trading can turn into a lucrative career (as long as you do it properly). But it can be challenging for novices—especially those who don’t have a well-planned strategy. And be aware that even the most seasoned day traders can hit rough patches and experience losses.

So, what exactly is day trading, and how does it work?

KEY TAKEAWAYS

Day traders buy and sell stocks or other assets during the trading day in order to profit from the rapid fluctuations in prices.
Day trading employs a wide variety of techniques and strategies to capitalize on these perceived market inefficiencies.
Day trading is often informed by technical analysis of price movements and requires a high degree of self-discipline and objectivity.

What Is Day Trading?

Day trading is a fast-paced form of investing where individuals buy and sell securities within the same trading day. The primary goal is to profit from short-term price movements in stocks, options, futures, and other financial instruments. Day traders typically use a combination of strategies and analysis, including technical analysis, which focuses on past price movements and trading patterns, and momentum, which involves capitalizing on short-term trends and reversals. Unlike long-term investors, day traders are less concerned with the fundamental value of the securities and more focused on capturing immediate gains from market fluctuations.

The appeal of day trading lies in its potential for quick gains, but it’s also associated with significant risks. It requires a solid understanding of the markets and the ability to make fast, informed decisions. Day traders need to stay abreast of market headlines, economic reports, and other factors that can influence stock prices throughout the day. They often employ leverage, borrowing money that can increase both potential profits and potential losses. As such, day trading is generally not recommended for inexperienced traders or those without the financial capacity to absorb losses.

It is also important to understand the regulatory environment around day trading. In the United States, the Financial Industry Regulatory Authority (FINRA) and the Securities and Exchange Commission (SEC) set margin rules (only in margin accounts) for “pattern day traders,” defined as those who execute four or more day trades within five business days. These traders must maintain a minimum cash balance of $25,000 in their brokerage account.1 Such regulations are designed to ensure that only those with sufficient resources and understanding participate in this high-stakes activity.

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The Basics of Day Trading

Day trading is most commonly observed in the stock markets and on the foreign exchange (forex), where currencies are traded.

Day traders are attuned to events that cause short-term market moves. Trading based on the news is one popular technique. Scheduled announcements like releasing economic statistics, corporate earnings, or interest rate changes are subject to market expectations and market psychology. That is, markets react when those expectations are unmet or exceeded—usually with sudden, significant moves that can benefit day traders.

Day Trading Strategies

A trader needs to have an edge over the rest of the market. Day traders use any of a number of strategies, including swing trading, arbitrage, and trading news. They refine these strategies until they produce consistent profits and limit their losses.

There also are some basic rules of day trading that are wise to follow: Pick your trading choices wisely. Plan your entry and exit points in advance and stick to the plan. Identify patterns in the trading activities of your choices in advance.

Day traders use numerous intraday strategies. These strategies include:

Scalping: This strategy focuses on making many small profits on ephemeral price changes that occur throughout the day. Arbitrage is a type of scalping that seeks to profit from correcting perceived mispricings in the market.
Range/swing trading: This strategy uses predetermined support and resistance levels in prices to determine the trader’s buy and sell decisions.
News-based trading: This strategy seizes trading prospects from the heightened volatility that occurs around news events or headlines as they come out. One type of news-based trading involves whether a merger or acquisition that has been announced will go through or not.
High-frequency trading: These strategies use sophisticated algorithms to exploit small or short-term market inefficiencies.2

Day Trading Strategy Breakdown
Type	Risk	Reward
Swing Trading	High	High
Arbitrage	Low	Medium
Trading News	Medium	Medium
Mergers/Acquisitions	Medium	High
HFT	Medium	High

Why Day Trading Is Controversial

The profit potential of day trading is an oft-debated topic on Wall Street. Internet day-trading scams have lured amateurs by promising enormous returns in a short period of time.

Some people day-trade without sufficient knowledge. But there are day traders who make a successful living despite—or perhaps because of—the risks.

Many professional money managers and financial advisors shy away from day trading. They argue that, in most cases, the reward does not justify the risk. Moreover, many economists and financial practitioners argue that active trading strategies of any kind tend to underperform a more basic passive index strategy over time especially after fees and taxes are taken into account.

Profiting from day trading is possible, but the success rate is inherently lower because it is risky and requires considerable skill. And don’t underestimate the role that luck and good timing play. A stroke of bad luck can sink even the most experienced day trader.

How to Start Day Trading

Professional day traders—those who trade for a living rather than as a hobby—are typically well-established in the field.3 They usually have in-depth knowledge of the marketplace, too. Here are some of the prerequisites of being a successful day trader.

1) Gain Lots of Market Knowledge and Experience

Individuals who attempt to day trade without an understanding of market fundamentals often lose money. A working knowledge of technical analysis and chart reading is a good start. But without a deep understanding of the market and its unique risks, charts can be deceiving.

Do your due diligence and understand the particular ins and outs of the products you trade.

2) Make Sure to Have Sufficient Capital

Wise day traders use only risk capital that they can afford to lose. This protects them from financial ruin and helps eliminate emotion from their trading decisions.

A large amount of capital is often necessary to capitalize effectively on intraday price movements, which can be in pennies or fractions of a cent.

Adequate cash is required for day traders who intend to use leverage in margin accounts. Volatile market swings can trigger big margin calls on short notice.

3) Learn Trading Discipline

Many day traders end up losing money because they fail to make trades that meet their own criteria. As the saying goes, “Plan the trade and trade the plan.” Success is impossible without discipline.

To profit, day traders rely heavily on market volatility. A day trader may find a stock attractive if it moves a lot during the day. That could happen for a number of different reasons, including an earnings report, investor sentiment, or even general economic or company news.

Day traders also like stocks that are highly liquid because that gives them the chance to change their position without altering the price of the stock. If a stock price moves higher, traders may take a buy position. If the price moves down, a trader may decide to sell short so they can profit when it falls.

Regardless of what technique a day trader uses, they’re usually looking to trade a stock that moves (a lot).

Who Makes a Living by Day Trading?

There are two primary divisions of professional day traders: those who work alone, and/or those who work for a larger institution.

Most day traders who trade for a living work for large players like hedge funds and the proprietary trading desks of banks and financial institutions. These traders have an advantage because they have access to resources such as direct lines to counterparties, a trading desk, large amounts of capital and leverage, and expensive analytical software.

These traders are typically looking for easy profits from arbitrage opportunities and news events. Their resources allow them to capitalize on these less risky day trades before individual traders can react.

The Solo Day Traders

Individual traders often manage other people’s money or simply trade with their own. Few have access to a trading desk, but they often have strong ties to a brokerage due to the large amounts they spend on commissions and access to other resources.

However, the limited scope of these resources prevents them from competing directly with institutional day traders. Instead, they are forced to take more risks. Individual traders typically day trade using technical analysis and swing trades—combined with some leverage—to generate adequate profits on small price movements in highly liquid stocks.4

Day trading demands access to some of the most complex financial services and instruments in the marketplace. Day traders typically require all of the following:5

Access to a Trading Desk

This is usually reserved for traders who work for larger institutions or those who manage large amounts of money.

The trading or dealing desk provides these traders with instantaneous order execution, which is crucial. For example, when an acquisition is announced, day traders looking at merger arbitrage can place their orders before the rest of the market is able to take advantage of the price differential.

Multiple News Sources

News provides most of the opportunities. It is imperative to be the first to know when something significant happens.

The typical trading room has access to all of the leading newswires, constant coverage from news organizations, and software that constantly scans news sources for important stories.

Analytical Software

Trading software is an expensive necessity for most day traders. Those who rely on technical indicators or swing trades rely more on software than on news. This software may be characterized by the following:

Automatic pattern recognition: This trading program identifies technical indicators like flags and channels or more complex indicators such as Elliott Wave patterns.
Genetic and neural applications: These programs use neural networks and genetic algorithms to perfect trading systems and make more accurate predictions of future price movements.
Broker integration: Some of these applications even interface directly with the brokerage, allowing for instantaneous and even automatic execution of trades. This eliminates emotion from trading and improves execution times.
Backtesting: This allows traders to look at how a certain strategy would have performed in the past to predict more accurately how it will perform in the future. Keep in mind that past performance is not always indicative of future results.

Combined, these tools provide traders with an edge over the rest of the marketplace.

Risks of Day Trading

For the average investor, day trading can be a daunting proposition because of the number of risks involved. The U.S. Securities and Exchange Commission (SEC) highlights some of the risks of day trading, which are summarized below:

Be prepared to suffer severe financial losses: Day traders typically suffer severe financial losses in their first months of trading, and many never make a profit.
Day trading is an extremely stressful full-time job: Watching dozens of ticker quotes and price fluctuations to spot fleeting market trends demands great concentration.
Day traders depend heavily on borrowing money: Day-trading strategies use the leverage of borrowed money to make profits. Many day traders not only lose all of their own money; they wind up in debt.
Don’t believe claims of easy profits: Watch out for hot tips and expert advice from newsletters and websites catering to day traders and remember that educational seminars and classes about day trading may not be objective.6

Should You Start Day Trading?

If you’re determined to start day trading, be prepared to commit to the following steps:

Make sure you come in with some knowledge of the trading world and a good idea of your risk tolerance, capital, and goals.
Be prepared to put in the time to practice and perfect your strategies.
Start small. Focus on a few stocks rather than wearing yourself thin. Going all out will complicate your trading strategy and can mean big losses.
Stay cool and try to keep emotion out of your trades. Don’t deviate from your plan.

If you follow these simple guidelines, you may be headed for a sustainable career in day trading.

Day Trading Example

A day trade is exactly the same as any stock trade except that both the purchase of a stock and its sale occur within the same day, and sometimes within seconds of each other.

For example, say a day trader has completed a technical analysis of a company called Intuitive Sciences Inc. (ISI). The analysis indicates that this stock, which is listed in the Nasdaq 100, shows a pattern of rising in price by at least 0.6% on most of the days when the NASDAQ is up more than 0.4%. The trader has reason to believe that this is going to be one of those days.

The trader buys 1,000 shares of ISI when the market opens, then waits until ISI reaches a particular price point, probably up 0.6%. The trader then immediately sells the entire holding in ISI.

This is a day trade. Obviously, the merits of ISI as an investment have nothing to do with the day trader’s actions. A trend is being exploited.

What if ISI had bucked the trend and lost 0.8%? The trader will sell anyway and take the loss.

Is Day Trading Profitable?

Day trading can be profitable, but it’s far from guaranteed. Many day traders end up losing money before calling it quits. Success in day trading requires a deep understanding of market dynamics, the ability to analyze and act on market data quickly, and strict discipline in risk management. The profitability of day trading depends on several factors, including the trader’s skill, strategy, and the amount of capital they can invest. While some traders do achieve significant profits, it’s important to note that the high-risk nature of day trading also means it’s possible to incur substantial losses. Additionally, profitability can be affected by transaction costs, taxes, and the psychological pressure associated with this type of trading.

What Percentage of Day Traders Are Profitable?

The percentage of day traders who achieve profitability is relatively low. Various studies and broker reports suggest that a small fraction of day traders consistently make profits over the long term. Estimates vary, but it’s commonly accepted that only around 10% to 15% of day traders are successful over time.78 This low success rate is attributed to the high risks, the need for substantial skill and experience, and the intense competition in the financial markets. Many aspiring day traders face significant losses in their early trading career, and only a few persist and learn the skills necessary to become profitable. This statistic underscores the importance of proper training, risk management, and realistic expectations when entering the world of day trading.

Why Is Day Trading So Hard?

Day trading is challenging due to its fast-paced nature and the complexity of the financial markets. It requires traders to make quick decisions based on real-time information, which can be overwhelming, especially in volatile market conditions. Traders must be adept at technical analysis, interpreting charts and patterns, and understanding how economic events influence market movements. Moreover, emotional control is crucial; day traders must avoid common pitfalls like overtrading or letting emotions drive their decisions. The steep learning curve, combined with the need for discipline, consistent strategy, and the ability to handle losses, makes day trading a hard thing to succeed at.

What Is the First Rule of Day Trading?

The so-called first rule of day trading is never to hold onto a position when the market closes for the day. Win or lose, sell out. Most day traders make it a rule never to hold a losing position overnight in the hope that part or all of the losses can be recouped. For one thing, brokers have higher margin requirements for overnight trades, and that means additional capital is required. There’s a good reason for that. A stock can go down or up on overnight news, inflicting a bigger trading loss on the owners of shares.

How Does Pattern Day Trading Work?

Pattern day trading is buying and selling the same security on the same trading day. FINRA defines a “pattern day trader” as any investor who executes four or more day trades within five business days once the number of day trades is more than 6% of the trades in the margin account for that period.9 Pattern day traders must maintain a minimum account balance of $25,000 in cash and eligible securities. They also have access to a higher level of leverage, typically up to four times their maintenance margin excess. This means they can trade larger positions but also face more significant risks.1011

The Bottom Line

Day traders can earn big profits or pile up significant losses. Indeed, with the evidence showing that most day traders lose money over time, it’s an extremely risky career choice. Day traders, both institutional and individual, would argue that they play an essential role in the marketplace by keeping the markets efficient and liquid. Though day trading will always be intriguing to individual investors, anyone considering it needs to acquire the knowledge, the resources, and the cash that it takes to have a chance at succeeding.