Day Trading Rules That Beginners Should Know
Day Trading Rules
There are endless rules and regulations surrounding transactions that take place up and down Wall Street every day, and the one you should be most concerned with, as a day trading beginner, regards having an account minimum of $25,000. CNBC notes, the average single American under 34 years old has about $2,729 in savings, which would mean a vast majority of people probably aren’t eligible to officially obtain “Day Trader” status. But don’t worry if your bank statement is missing some zeros at the end, we’ll explain how to go about navigating this rule shortly.
According to the Financial Industry Regulatory Authority (FINRA), the rules adopt the term “pattern day trader,” which includes any margin customer that day trades (buys then sells or sells short then buys the same security on the same day) four or more times in five business days, provided the number of day trades are more than six percent of the customer’s total trading activity for that same five-day period.
Under the rules, a pattern day trader must maintain minimum equity of $25,000 on any day that the customer day trades. The required minimum equity must be in the account prior to any day-trading activities. If the account falls below the $25,000 requirement, the pattern day trader will not be permitted to day trade until the account is restored to the $25,000 minimum equity level.
To be clear, just purchasing a security, without selling it later that same day, would not be considered a day trade.
The Rule’s Loophole
In the event that you do not have $25,000 in a trading account, you can still make up to three trades (buying and selling the same stock) over the course of five business days. Utilizing platforms such as Robinhood, TD Ameritrade, and others, this ambiguity is what provides virtually anybody the ability to trade on the market – well, at least three times a week, that is.
Swing Trading is a term used to describe an investor who bets on trends that play out over days or weeks rather than attempting to time a one-day trend that might last less than an hour. For beginners, this could be a much more advantageous trading style until your account grows to an adequate size. That’s not to say you can’t ride the dragon on a stock for 15 minutes of heart-pounding adrenaline, just keep in mind, with only three trades every five business days, you’ll want to make the most of them by employing a calculated approach.
Day Trading Tips
Hoping to get new traders on the road to earnings sooner, we’ve gone ahead and put together some helpful tricks that’ll spare you a headache or two – maybe even an empty bank account, for that matter.
Do Your Homework
Looking at a graph, identifying patterns of movement, and predicting where the price will go next is not good enough, it’s basically akin to throwing your money into a slot machine. While the graph and ticker symbol moving on your screen might indicate a seemingly promising purchase opportunity, remember that those values are entirely based on a real-life company with actual human employees that experience turbulent (at best) market factors. Therefore, bad PR, breaking news, missed revenue targets, or executives resigning, among an infinite amount of other untimely events, can cause a stock’s value to tumble.
It’s always best to understand every facet of the business you’re planning on investing in. Billionaire Warren Buffett tells budding investors, “buy into a company because you want to own it, not because you want the stock to go up.” Yes, that means reading through an entire annual report if need be or analyzing particular financial details like the corporation’s net income, earnings per share, and price to earnings ratio.
Of course, there’s the management team, business model, and competitive advantage of a company that ought to be taken into account as well. Is all of this research required? Absolutely not and some would go so far as to consider it excessive for a trade that lasts just minutes. Although a day trader isn’t necessarily planning to make a long-term investment, be sure to do your due diligence – it will save you in so many ways.
As you navigate different areas of the stock market and the risk that follows, a primary focus should be to learn, not to make a profit. Understand that with anything in life worth doing it takes time to build on your mistakes and if you approach this with the expectation to learn, rather than to “make it or break it,” like 99% of beginner traders, then your learning experience should reflect those results.
Especially at the start, only trade with an amount of money you’d be willing to lose, because, in all honesty, that’s probably what’s going to happen. On the bright side, you can earn from those initial losses down the road when you recognize a similar scenario playing out and instinctively make the correct decision.
With that being said, your goal should be nothing more than to, on the basis of acquired knowledge, develop a trading strategy unique to you. Setting a monetary objective, or depending on one for that matter, just isn’t realistic this early on.
Have an Exit Strategy
Anyone can buy a stock and sell it for a profit. It’s when things begin to go south that beginner traders break the risk management rule. To keep it simple, there are two sides to every trade “opportunity.” Just as much as it can go up it can, of course, go down, and thinking otherwise is very foolish. To be one step ahead, always have an exit plan, if the stock you buy drops below a certain price point, %, or break of pattern, commit to your plan of managing your risk accordingly.
Yes, it sucks to lose $50 but think big picture. I’d rather lose $50 quick than watch my entire trading account disappear over an agonizingly strung-out period of time.
Investopedia reports that many successful day traders risk less than 1% to 2% of their account per trade. If you have a $40,000 trading account and are willing to risk 0.5% of your capital on each trade, your maximum loss per trade is $200 (0.5% * $40,000).
Market Hours Vary
Each morning, the moment the market opens, stock prices fluctuate with increased volatility as investments pour in from all over the world. While seasoned day traders usually attempt to capitalize on these high-volume, dramatic trends, it’s a good idea for those less experienced to sit back the first 15 to 20 minutes and let stocks settle into a somewhat recognizable rhythm – or else, your new side hustle could be over just as soon as it started.
The middle of the day tends to bring about a more stable trading period, making this a practical training ground for anybody looking to study trends as they slowly materialize on their corresponding charts. In addition, take time out of these relaxed hours to research breaking news on various companies, industries, or governments, which could influence markets in a certain direction as trading volume and volatility, again, picks up in the last hours of the trading day.
Use What You Can Afford to Lose
This one’s pretty self-explanatory. Set aside a surplus amount of funds you have laying around that, if the worst-case scenario plays out, you can afford to lose.
You have nothing but time to make money so when you are building your treasure chest of working best practices the goal is not to start trading with a large dollar amount but to find a good balance of enough money to feel motivated but not so much you become an emotional mess. This of course changes over time with experience and the risk you scale to tolerate. Remember, anyone can make money in the stock market but it’s the few that can tolerate the risk when things begin to go south. Understand the difference!
How Much Time
Although day trading can be location independent, meaning done from anywhere with a good enough wifi signal, it still requires time; maybe as much as a 9-5 job. On the other hand, a single buy and sell over the course of 30 minutes could haul in an entire week’s pay. Obviously, even in this case, a trader would have to be monitoring the stock, among others, before determining its viability as a position worth holding, which in and of itself eats up clock.
In general, aside from those few brief trade transactions allowed per 5 business days, it’s safe to say you’ll likely be spending hours on end sharpening your market senses by combing over graph trends and news articles.
Stocks valued under $5 are going to be so tempting because the shares are inexpensive and therefore capable of being bought at a high volume. Don’t do it. Don’t trap yourself into depending on a terrible company’s performance.
Sure, the greater the risk, the greater the reward, however, there’s a reason that stock is priced so poorly. Not to mention, a professional day trader is looking to establish consistent weekly profits via strategic actions that can be replicated; the everlasting extreme volatility of penny stocks makes targeted productivity nearly impossible.
Your boy Mikey down at the garage who claims some big wig hedge fund manager stopped by to get his Porche tuned up and hinted at him that (insert ticker symbol here) is going to skyrocket in the next few days, does not count as a reliable source. Nor should you trust any sort of SMS, mail, or advertisement that suggests they can procure above-average profits – if it sounds too good to be true, it probably is.
Do your own research and stick to reputable financial sector media outlets such as Bloomberg, The Wall Street Journal, Forbes, etc. In terms of primary sources, publicly traded companies publish earnings reports quarterly and make regular press releases that are typically easily accessible from their corporate web domains.
Become the tin man. Empty your soul of all emotion when stepping up to the trading screen. Good or bad, don’t feel it. Make decisions based on logic and make sense of the consequences of those choices with reason, that way no matter what, you can always build on your experience.
Do all the celebrating you want on the weekends when profits have flooded your bank account, but when it comes time to put in that work, you must be a stone-cold, heartless assassin. On the flip side, there will be situations when introducing your computer screen to the metal end of a baseball bat seems like an appropriate reaction to what just transpired, save yourself a repair bill and step away from the electronic device.
“Losing money because you bought right before a price drop and then sold before a price rise because you were frustrated or disheartened is a terrible feeling. When this situation occurs, traders often think their timing is off, or they’re out of sync with the market,” explains Cory Mitchell, an investment writer for The Balance. “While that may be true, a better way to look at it is a lack of patience. Impatient trades lead to unnecessary losses, additional stress, and wasted emotional energy.”
Emotions make the mind foggy and take our attention away from crucial signals that must be recognized. Therefore, while day trading, it’s a good rule of thumb to leave them at the door.