What is Day Trading?
There is no absolute definition of what day trading is, however it can be described as the buying and selling of a single security within the same trading day. All trading positions are closed out prior to the end of the specific trading day and as such there is no overnight risk to consider.
Long-term investing, on the other hand, involves analyzing the performance of many instruments and choosing the ones that appear to have the best potential. A long-term investor expects to hold an instrument for at least a week and must be confident of the instrument’s ultimate value so as to be able to tolerate interim periods of both lows and highs.
The most common markets that day trading occurs in are FX, equities, commodities, and fixed income markets. Nevertheless, day trading is not limited to these markets and can be conducted in any market that the day trader so chooses.
The markets listed above are both the most liquid and the most volatile. Volatility and liquidity is what provides a day trader with trading opportunities. Without sufficient liquidity and volatility, day trading would not be possible.
Day traders look to magnify returns through the use of leveraged products such as financial futures contracts. Ironically, it is the day traders themselves that provide a large portion of the liquidity required for them to be able to day trade in the first instance. Most day traders approach the markets by using trading strategies that are specific to day trading, such as fundamental and technical analysis.
The objective of the day trader is essentially to identify arbitrage opportunities from which he/she can capitalize upon profitably multiple times on a daily basis.
Being a Day Trader
Being a day trader requires exceptional in-depth knowledge of the markets being traded in terms of analytical methods, market structure, and market conditions.
A day trader must be completely in accordance with all three to operate profitably on a consistent basis over time. Furthermore, all consistently profitable day traders display similar characteristics and are exceptionally disciplined.
Below are some of the characteristics of a professional day trader:
- Knowledge & experience: Without this, a day trader is almost certain to lose their capital.
- Capital: Without sufficient capital a day trader is also likely to lose their initial capital at some stage. The day trader, especially the least experienced, needs a capital buffer in order to overcome consecutive losses – something that all traders have experienced sometime in their trading life. This is simply a function of the behaviour of financial assets.
- Strategy: All profitable day traders should have a model/strategy that they use to approach the financial markets. These strategies are simply models that have to be developed with a degree of flexibility. As such, they are simply guidelines that the trader follows. Specific market conditions will dictate how and when a trader deviates marginally from the rigidity of a given model. Some strategies include trend, momentum, swing, arbitrage, and signals amongst others.
- Risk Management: All successful professional day traders should have advanced and sophisticated risk management models to ensure losses are minimized in conjunction with profits being maximized. Discipline is one of the most important traits of the professional day trader. A day trader needs to go into trading psychology, discipline, behavioral finance, and risk management in greater depth.