How to Day Trade: Establishing the Foundation

If you’re interested in learning how to day trade, the first question I’m going to ask you is “Why?” Not because I don’t think that day trading is a worthy pursuit, but rather to help YOU identify the real motive or motivation behind your desire to trade. As I mentioned in my previous post on how to learn to day trade, to answer “money” to that question is many times not looking deep enough. One person may say “Well, how deep do you really need to look? It’s just trading.” Believe me, if you’re interested in learning how to day trade and make some real money day trading, you will not be able to escape having to answer that all-important question. Day trading is such a level of emotional and psychological warfare, if you’re not ready for it, and if you’re not grounded in your real reasons for doing it, you’ll cave at the first adverse market move, or the first time you have a string of losses you’ll begin to doubt yourself, doubt your abilities as a trader, and with enough crappy trades in a row you’ll begin to be afraid of your own shadow. You’ll get to the point where you “scare easily”, and that will eventually lead to more and more losses, as the slope just gets more and more slippery. Again, the term “whipsawed” will take on new meaning if you allow your trading to be subject to your emotions and your passions regarding money. The thing that we all have to face is that the so-called “perfect day trading system”, or the perfect set of trading signals doesn’t really mean a thing if you’re still dealing with greed. Greed is based in fear (you’re afraid of never having enough, so you continue to clamor to get more and more), and that fear will be your motivation to sell at a loss to keep from losing more money, and it also is the motivating factor for buying into a stock only after it has taken off, to get in on the hype. These crazy emotions that drive us to do illogical things for unlikely payoffs even in the midst of completely undeniable evidence to the contrary can be our ruin, if we’re not careful. Nobody is exempt from greed, and greed is something that you can’t necessarily see in the mirror. And regardless of what Gordon Gekko said, greed is NOT good, especially if you plan on making a career of day trading, or if you expect to have any shred of long-term profitability trading the markets. Day trading is a powerful method for achieving profits in the markets, but your foundation must be properly set in order to be truly effective. Again, you must identify the “Why”. Once that is done, there are technical things and trading techniques that you can learn to pull profitable trades, but they must be used with prudence and patience. That seems almost contradictory in such a rapid-paced trading environment as day trading, but patience is still a virtue, because for some people, even day trading doesn’t move fast enough to keep up with their greed. But enough of my philosophizing; let’s talk about a day trading technique (or two, if time permits). I spent some time in a previous post talking about scalping trading, which is one form of day trading. Another technique commonly used by day traders is called “fading” the markets. Basically what you do is you wait for a stock (or commodity futures contract or currency pair) to rally, and once you believe the rally has stalled out or is on its way back down, you begin to short the market at your best guesstimate of where the rally has topped out. Fading is based around that age-old principle that “What comes up must come down” (Spinning Wheel, anyone?). A lot of times a fast buying wave (a.k.a. rally) will drive up prices temporarily, but not enough interest is there to sustain the rally and maintain the new upward price. At this point, prices begin to show weakness, and eventually they slide back down, many times in very short order. When this type of thing happens, you have a great opportunity to short the rally and then cover your short (i.e., liquidate your position) when prices decline once again. I have a friend who does these types of trades with the E-Mini S & P 500. He has the daily price and volume trends down to a science. He knows what type of spikes the E-Mini is going to get in the morning time, and he plays them well. I explained in my previous post how cool scalping (well, my version of scalping anyway) is, and how you don’t have to have a huge spike in prices (if you’re long) or a freefall in prices (if you’re short) to make money; you can make money with one small uptick if you have enough contracts to make a significant profit on a per-contract basis. If one uptick in Corn equals $50.00, if you’re trading 100 contracts of Corn, you now have made $5,000 in one uptick. That’s pretty sick if you think about it. These techniques, my friends, represent just one school of thought on how to day trade. There are several more, but so far, these are the ones that I can say I understand best and favor the most. More on this at a later time.

Scalping in Day Trading

For a long time, I’ve been a fan of the scalping trading style. It’s one of the most reasonable ones in my book, because it’s based on the simple premise of getting in and getting out as quick as possible, with little thought to what the market will be doing in a few days from now. There are actually two different sides to scalping, or in my mind two different basic definitions of scalping, with only one being the one I want to focus on with this post (I’ll tell you which one that is as we go along). Again, the basic principle that I think of that makes scalping work is that you don’t have to be right for a very long time…you can be right for only just a couple of minutes and make money scalping. But man, if you try to put on a trade for the long haul, as in weeks or months, you’re really going to run into a case where you’re going to have to be right for a much more sustained amount of time. I’m telling you, it’s much easier for me to predict what the market may do within the next 15 minutes as it is for me to predict what it will do in the next 15 days. With a smaller time frame perspective, the trade just seems a little more manageable to me. Of course, if all of us could predict the future, we would have bought Gold back in 2007 when it was only at about $500.00 an ounce. And even back then, that was considered a breakthrough price. But human nature being what it is, and the nature of the markets being what they are, nobody really could have known how far Gold was going to go up—as of this writing, it’s over $1,000.00 an ounce. Unreal. That’s a whole other story…I was trading Gold options in 2007, and believe me, there are times now where I look back and think about totally revising my trading philosophy based on what has happened. But alas, it’s much better to formulate and stick with a plan than it is to keep bouncing back and forth and “chasing a moving bus”, trying to get in on a market move that has already taken off. There are ways to do it, if you are a somewhat skilled trader, but please don’t try to chase a market if you’re a novice trader. You will experience what’s known as being “whipsawed”, which is just as bad as it sounds. You’ll get tossed around the markets like a balloon at a 3-year-old’s birthday party. Again, it’s better to use a disciplined trading approach, based on recognizable chart patterns, than to try that crap.

But on to the business of scalping. And man, let me tell you, it is a business. The first definition of scalping—the one that I’m NOT going to use for this post—is that of taking advantage of disparities between the bid and ask prices on a stock, or futures contract, or forex currency pair. This is a very common practice in the trading world, performed by traders and market makers the world over. Basically, the bid price is the give-it-to-me-right-now price that people are willing to buy the stock for (I’m using stocks just for the ease of the example, but it applies to futures and forex as well). The ask price is the give-it-to-me-right-now price that people are willing to sell their stock for. When there are discrepancies between these two prices (which most of the time there are), you have what’s known as a spread. The spread is where market makers make their money, and where they’re able to “scalp” profits from trades. The whole business of scalping wouldn’t do nearly as well as it could if it were not for people willing to use market orders to enter a position—this is the “give-it-to-me-right-now” price that I was referring to earlier. The type of scalping I’m talking about is of a slightly different order, but based upon the same basic thing. Basically, my version or definition of scalping (and I may be the only one who understands or accepts my definition) is when you buy (for example in the case of futures contracts) several futures contracts, wait for the price to rise the slightest little bit to where it’s showing a small amount of profitability on a per-contract basis, and then immediately sell as soon as the per-contract position becomes profitable. This may seem like a herky-jerky way to do things, but believe me, there’s a method to the madness. Let’s use Wheat for an example with this—as you can tell, I love trading the Grains. Wheat has a tick value of $50.00, meaning if Wheat goes from 300.00 to 301.00, the per-contract value has increased by fifty bucks. Now think about it: The average online commodity broker will charge roughly $25.00 round turn for commissions and fees, and less if you trade a whole lot of contracts on a monthly basis. Many brokers provide a commission scale that’s based on the amount of trading activity you crank out on a monthly basis. If you’re considered to be an “active trader” by your brokerage (and most day traders are), that usually means you trade hundreds of contracts/shares/currency pairs per month, and when this happens, you are usually qualified to receive lower commissions, sort of like a volume discount. Now back to my Wheat example…let’s say you buy 10 contracts of Wheat at 300.00, and in just a few minutes the price fluctuates a little, but ends up popping over 302.00. You place an order to exit your position with an absolute limit exit price of 301.00. You end up exiting at 301.00, with a gross profit of $50.00 per contract. Think about it: You just made $50.00 per contract, and since you have 10 contracts, it only took one small uptick to make $500.00. Now take away an average of $25.00 commissions and fees per contract, and you’re left with $250.00 profit (give or take; again, this could greatly vary based on whether or not your broker offers discounted commissions). Not bad for a few minutes worth of work. Even if you only did this every day, you’re looking at about $7,000 a month. For some people, that’s a great supplemental income; for many, it would even replace their current full-time income. This, my friends is the scalping trading method. Okay, I have written way more than I planned on writing, and I’m ready to drink some chocolate milk, so I’m signing off. Later.

Day Trading Strategy

Okay, I’m about to get Sun-Tzu on everyone and talk about day trading strategy. There are several approaches you can take to actually execute your trades, and believe me, I’m the kind of day trader that believes that it’s better when you keep it simple. There are people who are so wrapped up in chart reading and technical analysis that they have 537 different indicators they’re monitoring (Williams %R, Relative Strength Index, Gann lines, etc.), and they have so many different multi-colored squiggly lines and graph-looking stuff overlaying their price charts that it ends up looking like a Kandinsky painting. I can’t even function properly with all that stuff going on. Just give me a basic chart pattern, such as a symmetrical triangle or flat-top triangle, and that’s pretty much all I’ll need to know how to react to a market move. A lot of times it’s just a matter of feeling out the general sentiment of the market by studying it every day before even dropping one dollar on a trade. What do I mean by this? Well, take the futures market for example...I have noticed that Corn always has a certain level of trading volume in the morning hours that sort of slopes off towards lunchtime, and then increases again near the end of the trading day. If you could see the volume on a chart, it would look like a horseshoe, because it’s high on both ends, but dips in the middle. A day trader would take advantage of this situation by finding out the general market bias as soon as the opening bell rings, and then basically “riding the wave” until the tide changes. One thing to note is that if the market comes out the gate swinging, the sheer momentum of the collective traders’ bias will normally keep the market moving in that direction. What do I mean in specifics? Okay, let’s say that you see Corn opening up strong, possibly three or more cents higher than the day before. What do you do? Well, while there may be slight corrections during the day, the mere “shock” of Corn opening that high in comparison to where it closed the day before will spur some upside trading activity. I had a situation like this a few years ago where Corn opened up with a bang—some 3 cents above the previous day’s close—and I immediately placed a buy order to get in as fast as I could. I knew that the sheer momentum would allow me to take some quick profits. And, I was right…within one hour, Corn had traded 5 more cents above the early morning opening price, and I had made a quick $250.00 (well, a little less after commissions and fees) within about a two hour span. Folks, this type of stuff happens all the time. I am a big fan of just getting in and getting right back out as soon as I’ve locked in some decent profits. I figure that I can be far more accurate with my predictions if I’m only looking about 2 hours into the future versus trying to look one month into the future (or futures—okay, bad pun). If you think about it, you don’t really even have to have a strong price move if you use leverage to your advantage. You can simply buy more contracts up front, and then you have leveraged your position to the point where even the slightest little “blip” in a trading day can make you large amounts of money. This is a slightly different day trading strategy known as scalping…I’m going to go into this in a little more detail in my next post. Hope you’ve enjoyed this little bit of insight into the mind of a day trader…again, I may not be the most sophisticated one, and I’m definitely not the most wealthy one out there, but I’ve made some darn decent coin in my day. Until next time…keep the faith, whatever that means.

Day Trading Strategies

Okay, so now it’s time to dive into the “meat” of some common but yet effective day trading strategies. As you well know, the price chart is the king of all tools to help you discover which stocks are profitable for day trading, and which ones to stay away from. Now, I know that right now one of the main questions in your head is probably “Well, among the thousands of stocks that are available to day trade, where do I even start?” I would recommend picking stocks that have lots of daily trading volume. By “lots” I mean stocks that trade in the tens of millions of shares every day. This way, liquidity concerns are alleviated right off the bat. By “liquidity”, I mean how likely it will be that you can enter and exit the market with reasonable ease. This is a must for the day trader, due to the very nature of the day trading methodology. If you can’t enter and exit a market in seconds, it’s going to be very difficult to maintain the control over your position necessary to generate profits. You must, must, MUST have high liquidity when day trading; that’s the very nature of the game, so to speak. One of the things that high liquidity will do for you is give you a much better chance of avoiding slippage, which is basically when your entry (or exit) order gets filled at an undesirable price…this usually means that you get filled at a couple of points or “ticks” higher than you’d like on your buy orders, and you get filled at a couple of points lower that you’d like on your sell orders. Slippage sucks…I have witnessed it first-hand, and it’s a major factor especially when you use market orders, which I normally advise against. Market orders are basically orders that are supposed to be filled at the prevailing market price, or at the current price that the market is trading at. But, of course, you’re living in a fool’s paradise if you think that’s what actually happens. There are many stories of floor traders taking advantage of market orders by front-running and doing other types of “trickery” to make quick profits off price disparities in the orders they’re filling. So even with day trading, unless you are wildly confident, I would still recommend using limit orders, because you don’t want to find out what price you’ve entered the market only after you are in the position; you may find that it’s several points above (or below, depending on whether you’re long or short) your intended entry price. Bottom line to what I’m saying? USE LIMIT ORDERS. Limit orders basically guarantee that you’ll enter the market at your own predetermined price, and not be at the mercy of the floor brokers. This could mean, however, that you may not get filled at all; this is part of the price you’ll have to pay in order to maintain more control over your trading position. With the type of day trading I do, this setup works perfectly, and limit orders have never really been a problem, even in relatively fast-moving markets. I’m not the “millisecond” day trader; I’m more of a relatively slow day trader, meaning I can enter a position in the morning and not sell until the afternoon. I’ve done this many times, and made money trading this way many times. It works for me, but I don’t expect it to be THE way for any other person. We all have to experiment, identify our own trading temperament, and then develop our day trading strategies around our trading personality. This is the best way to keep yourself on the winning side of the markets, because now your trading style is consistent with your overall personality and risk tolerance. There really is no other way to go. Okay, gonna stop for now, but I’ll be picking up again in a few…er…well, we’ll see. LOL!!!

Day Trading Investing

Man, I’m fired up. I just watched some PBS special on the stock market crash of 1929, and how many of Wall Street’s most elite traders were able to profit to levels of insanity during that time. One in particular was Jesse Livermore, who is famous in trading circles because he was a chart reader and “technical analyzer” so to speak. He may have unwittingly been the father of day trading investing, because he made over $100 million virtually in one day during the 1929 crash. Again, for those people who truly understand how the market works, if a market crashes, it’s not necessarily a bad thing. If you’re ever short (i.e., entered the market on the short side) during a market crash, you’re laughing all the way to the bank. If you had shorted the Dow Jones Industrial Average index (ticker: DJIA) from November of 2007 to March of 2009, you would have seen it lose literally half its value, and hardly would have even had a losing day, because it just kept trending lower and lower during that period. Yes, this type of gradual (yet huge) downtrend does not qualify necessarily as a “crash”, because of the prolonged time frame, yet the principle is still there…a market going down can be a beautiful thing, in the eyes of the right “beholder”. But on to the topic of day trading investing. As I said in my last post, I’ve pretty much given up on trying to bring this information across in any kind of really organized fashion; you’re just going to have to depend on the old mantra—“More is caught than taught.” After watching that special, it lit a fire under my tail all over again as far as how limitless the stock market really is. And not even the stock market alone, but also the commodity markets and forex markets as well. You really have the right to “set your own salary”, so to speak. There’s nobody telling you how many shares you can trade or how much money you’re allowed to make (unless, of course, the government keeps buying up all of the financial institutions and so forth). There really is no upper limit…if that doesn’t inspire you, you may be in the wrong business. But as it pertains to day trading, although the sky is literally the limit, you won’t get past the rooftop without a well-thought-out trading strategy. This is why understanding chart patterns is such a vital thing. Chart patterns are what’s going to give you your “cues” as to when to enter & exit a market. Some people believe that chart reading is borderlining on some silly practice like astrology or something similar, but the truth is that nothing else can really be more indicative of a stock’s actual value than its price chart. The reason for this is that the numbers simply cannot lie. Fundamental news reports can lie. Company accountants can lie about the company’s earnings and revenues by redefining what an “asset” and what a “liability” are. But the one thing that always displays the cold, hard truth is the price chart. The price chart is what it is. All the flurry of the news and reports and fundamental data is great, but if you really want to know whether a stock, commodity, or currency is on the bargain counter, you have to go to the price chart to find that data. The price chart provides the only means by which you can see historical price data, to find out if the stock/commodity/currency pair is in its low or high range, in comparison to the lows and highs of the past. One of the best charting sites out there is BigCharts.com, a favorite staple of mine. BigCharts is mainly for stocks, but practically every online brokerage worth its salt will give you access to price charts with an active trading account. By the way, if you have an account with an online brokerage and they’re charging you extra just to look at the price charts, you need to change brokers fast. There are plenty out there to choose from to keep you from having to be stuck with some cheapo brokerage that doesn’t provide good, quality tools to its traders free of charge. This is a “hot-button” issue with me, as you can tell. I just believe that if you’re giving them tons of your money (in the form of commissions and fees) by being a frequent day trader, they ought to at least give you a reasonable deal on the essential trading tools you need to keep trading. Another great online broker that I have an account with is OptionsXpress. They are consistently rated as one of the top online options brokerages out there. I know that this blog doesn’t necessarily focus on day trading options in particular, but OptionsXpress also provides access to trading futures and regular stocks. Sorry for getting off on these tangents, but I felt it was important to mention the places that you can go to get good, quality price charts without a lot of hoops to jump through. But in the world of day trading investing, in my mind at least, the price chart is king, and any type of conclusions I’m going to draw about which market I’m going to be in are going to come from my study of the price charts. I don’t necessarily pick a market or a particular security or currency and then find out what I want to do from there; I look for which one has the most promising price chart and then begin planning my trading from that point. A true chartist understands that it really doesn’t matter which particular stock or whatever you choose to trade; all that really matters is what those little bars are telling you on the price chart. More on this later…I’m out for right now.