Day Trading Strategies

Nasdaq Take 1

Nasdaq Take 1—bfishadow (Flickr.com)

One of the fundamental rules among Day Traders is that they do not hold positions over night. This is partly because intra day leverage requirements can be 100 – 1 or better depending on the firm the day trader uses. Over night positions usually carry a margin level of 2-1 or 4-1 meaning that if the position you are holding is 1000 shares of stock XYZ worth $100 per share, then you will need $25,000 to $50,000 to hold this position overnight on 4-1 or 2-1 leverage.

High frequency trading or “day trading” is actually a profession based around effective risk analysis, and lowering risk exposure is another reason why day traders close out all positions by the end of day.

If the markets you are trading are closed, you will not be able to take action in response to unforeseen events and news. Surprise events like terrorist attacks, or company corruption can often take place during off market hours exposing traders to serious risk of account losses. By closing out positions before the market closes, you remove your investment from market play, avoiding all the pit falls that may affect overnight investors.

Above all, high frequency trading means you have to stay in control, and this doesn’t just mean you shouldn’t lose your head when something extraordinary happens, it means you shouldn’t leave your trading station let alone leave a position overnight. Your “edge” in the market as a day trader is more than just an effective trading strategy, it also incorporates your skill to respond and adapt your trading plan to unforeseen events in real time under real pressure. That being said, when you mix effective swing trades with your prowess as a day trader you begin to develop much more effective Day Trading Strategies.

Day Trading Strategies – Technical Analysis

One of the most important things to remember about technical analysis is that the less complicated it is, the better it works.

So what is technical analysis?

Day Trading Strategies incorporate Technical Analysis as a way of extrapolating past movements in price to create a projection of price moves in the future. That is to say, day traders look at graphs and charts of a security’s movements under certain conditions and then attempt profit from future moves when they believe that the stock, currency or security is entering the same or similar conditions again.

i.e. Past = Future, history repeats itself.

Although this is partly true, the fact is that history never repeats itself in exactly the same way, which in turn, leads to unpredictable results. This is part of the reason why Technical analysis comes under scrutiny from time to time. To be effective you must be able to identify both a pattern and the conditions that created it if you wish to develop a profitable day trading strategy.

Day Trading Strategies and Fundamental Analysis

The difference between fundamental analysis and technical analysis is basically this:

Technical analysts believe that there is not intrinsic value of anything. The only value of something is the price people will pay for it.

Fundamental Analysts believe that there is an intrinsic value to things that will come to fruition at a later time. They then look for things that are under priced for illogical reasons as a way to take profits when the prices return to their intrinsic value

So who is right? Both are. Fundamental analysis works better for longer term plays made by hedge funds that require large movements of capital in and out of the market, whereas Technical Analysis works better for short term high frequency and day trading strategies.

Fundamental analysis seek to find an intrinsic value of a stock, commodity, or currency. It bases its analysis on the fact that people are reasonable and will make logical decisions. If a company is worth $1 per share and doubles its assets and earnings it should then “logically” be worth $2 per share.

High Frequency Day Trading strategies that incorporate this type of logic usually fail due to the fact that people are logical in the long term but emotional in the short term. Because day traders deal with short term market fluctuations, they are much more exposed to the emotional moves and psychology of the market rather than the long term views of logical investors.

This isn’t to say that day traders don’t watch fundamentals, they do. Very closely.

A change in fundamentals can mean a lot of short term volatility. Large long term investors may need to make high volume changes creating above normal volume and volatility in the market. This in turn can change the risk parameters of other market participants (especially non professional level day traders who cannot adapt in time) This, in turn leads to a both highly emotional and highly volatile trading atmosphere.

Its not to say that Day traders are trading of the fundamentals as much as it is that day traders are trading off the change in perception of the fundamentals. This means that the price someone is willing to pay for it in the future has changed, and this in turn changes the price people are willing to pay in the present.

This is why some high frequency traders specifically attempt to trade of news and changes in long term perception and incorporate a deep fundamental analysis into their day trading strategies.

High Frequency Trading Strategies take into account many different aspects and can cause confusion. This is why before you begin to incorporate these strategies into your overall day trading plan, you need to have a good grasp on the fundamental aspects of high frequency trading. Each element you choose to incorporate should work at its basic most fundamental level. If you are trading a stock that announces earnings that are better than expected, it may mean that the price will rise in the future, but that doesn’t mean the price will rise by the end of the day.

As a day trader it is your job to create profitable day trading strategies for the current perception of the market’s future today, not what you think the market perception will be in tomorrow’s future.