What is Day Trading? (2024)

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• Day trading is the practice of making several trades of a security within a single day.
• Day traders hope to use market volatility to make money on small gains by trading stocks.
• While there's significant money to be made with day trading, there's also significant risk.

There are many ways to make money with securities — and day trading is one such way. With increased access to investment apps and tools, reduced fees for trades, and data relating to securities, many people are becoming more interested in how small moves in the market can deliver profits.

But day trading isn't for the inexperienced investor. To be successful, you need the right mix of education, experience, and capital — not to mention the discipline to execute a cultivated strategy. Here's a closer look at how to day trade and what you need to know before taking the leap into these often perilous waters.

Defining day trading

Same-day transactions

Day trading is when you buy and sell the same security within the same day. An active trading strategy utilizing this approach generally involves making a large number of transactions in order to produce adequate returns.

Robert Johnson, professor of finance at the Heider College of Business at Creighton University, describes day trading as the practice of placing "numerous bets on short-term price moves in securities. [Day traders] are properly classified as speculators and not investors."

Benefiting from volatility

The hope is that in making these trades, you can capitalize on any gains the securities might have experienced during the day. Basically, this approach seeks to make use of any short-term price movements experienced by a stock or other security.

Common day trading strategies

Scalping

Scalping is one of many day trading strategies, and it aims to generate profits from small price movements in the prices of securities (frequently stocks). The basic rationale behind this approach is that traders may find it easier to take advantage of small price movements than larger ones.

With this approach, an investor might execute hundreds of trades a day. Day traders hold onto these securities for seconds to minutes, since trading happens so quickly with this strategy. Trading in large volumes is key for success with this method.

Anyone using this strategy can benefit from formulating an exit strategy and sticking to it, as one big loss could wipe out all the gains generated during a trading day.

News-based trading

Day traders follow the news to look for conditions that could impact the price of stocks. They have to continually monitor news outlets to look for information they can use to make predictions about how stocks will fare, and then base buying and selling actions on that information.

Traders should keep in mind that a news story can change very quickly as media outlets release updates on highly visible situations.

Technical analysis

Technical analysis involves examining a security's price history and trading volume to get a well-informed sense of where it will go next. A trader can get an idea of what the market's attitude is toward a particular security by reviewing this data and then potentially profit from that information.

Why day trade?

Potential for quick profits

The global asset markets sometimes experience sharp volatility, which makes it so that traders can generate rapid profits if they can "time the market" correctly.

By making a large number of transactions, a day trader can potentially earn substantial profits using this approach.

"If successful, day traders can make a lot of money in a relatively quick amount of time," says Vinny Yu, co-founder of JAVLIN Invest. "You can also work as much or as little as you want. Some traders can make money by just trading the open and then [taking] the rest of the day off."

However, he emphasized that loss management is important for being successful with day trading. He says preserving capital is paramount in not letting small losses turn into large ones.

Control

Day traders are in charge of monitoring their own portfolio, which gives them complete control over what they do with their investments. Investors who use this approach get to make decisions in real-time regarding the securities they wish to buy and sell, as well as how many transactions they wish to make.

"Investors can access equity markets more cheaply and easily than ever before," says David Keller, chief market strategist at StockCharts.com. "But that easier access also comes with increased risk. Investors should educate themselves on the concepts of risk versus reward, particularly how to manage risk on individual stocks as well as at the portfolio level through asset allocation. By learning about market history using charts and technical analysis, day traders can better appreciate how repeatable patterns in price action can be identified and quantified."

Because day trading can be so risky, investors who day trade have a lot to consider. "In addition to reading charts and monitoring news, a good day trader can also recognize opportunities from reading the tape," says Yu. "The goal of a day trader is obviously to make money, but equally as important is to hang on to that money and not lose it."

Risks of day trading

High risk of loss

Most day traders lose money. Many individuals are enticed by hopes of generating quick profits, but fail to make this materialize. An academic paper, titled "Do Individual Day Traders Make Money? Evidence from Taiwan," found that "in the typical six-month period, more than eight out of ten day traders lose money."

At the same time, the paper found that some day traders can consistently generate profits.

"The deck is stacked against the day trader and is stacked in favor of the long-term investor," says Johnson. "Over the long term, investing in the stock market is a positive-sum game. That is, over the long run the value of stocks, both individually and collectively, generally rises. On the other hand, over the short term, investing in any asset class is a zero-sum game."

Some traders take part in margin trading, which involves borrowing money to make transactions. While this approach can enhance profits, it also increases potential losses, so it is a highly risky approach that most beginner traders might want to avoid.

Investors should also keep in mind that if they make transactions using margin and make at least four day trades within the span of five days, they are classified as a pattern-day trader and need to follow more rules than other traders would.

Volatility

Sharp price movements in the global asset markets can cause losses to build up quickly. Rapid price movements can cause the securities purchased by a day trader to lose substantial amounts of value, therefore generating significant losses.

Stress

Day trading requires intense focus and rapid decision-making, which can be draining, especially for investors who are enticed by the idea of making a quick buck by using this approach.

If you want to succeed in day trading, you also can expect to devote a significant amount of time researching, planning, and making trades.

"Day trading is a full-time job," says Yu. "So if you're thinking it's quick and easy money, think again. Day trading requires discipline, patience, and emotional stability."

Investors who want to take part in such activities can benefit from creating a system with specific day trading rules and sticking with it. Doing so will require discipline and commitment, as well as having the emotional wherewithal to deal with constant market volatility. It takes time to learn what works and what doesn't with day trading and to develop a methodology that results in the kind of profits you're looking to achieve.

"In my experience, the most successful traders exercise good discipline in their decision-making by focusing on the weight of the evidence," says Keller. "It's good to consider different perspectives, but at the end of the day, your decision process is up to you. Develop a well-articulated checklist for entering and exiting positions, apply that checklist consistently, and find success."

Aspiring day traders also need to stay abreast of regulatory considerations. Like most kinds of investing, day trading is subject to regulatory oversight by the Financial Industry Regulatory Authority (FINRA) and the Securities Exchange Commission (SEC). This is because day trading involves the purchase and sale of securities.

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