Are you thinking of starting out on your own as a day trader? Or perhaps you’d like to supplement your small business income with a little bit of day trading on the side? You certainly won’t be the first entrepreneur who has looked at the financial markets as a potentially lucrative revenue stream, but before you make your first moves, it’s important to consider your day trading strategy.
What is day trading?
Day trading is a popular form of market trading in which a trader opens and closes a position on a particular financial instrument during the same day. This very short-term trading style tends to favor experienced traders who prefer not to have open positions overnight or while they are not watching the markets.
Within day trading, there are several trading styles an investor can have, which determine the type of positions they take. Here we’ll discuss some of the most common day trading strategies so you can find the best fit for you, your level of knowledge, and your personality type.
What are day trading strategies?
Having a predetermined, consistent, and effective strategy is a key part of any profitable trading plan. Most strategies are built on detailed technical analysis and the use of charts, indicators, and patterns to predict future price movements. But don’t make the mistake of thinking you need a complex strategy to exceed. Often, it’s the most straightforward strategies that are the most effective.
Here are five basic day trading strategies for you to consider:
Scalping
Scalping is one of the most popular day trading strategies and is based on the premise that lots of small wins can add up to a good profit by the end of the day. A ‘scalper’ places multiple trades throughout the day and sells them almost immediately after a trade becomes profitable.
With a goal of making small profits over extremely short timeframes, the scalping strategy is very fast and multiple trades can be made in just a few seconds. That’s why scalpers must be confident in their judgment and be able to make quick decisions. Scalpers must also have the discipline to sell very quickly when they witness a price decline to minimize their loss.
Fading
The fading day trading strategy is all about going against the flow by betting against a strong price movement. So, a ‘fader’ buys when the market is selling and sells when the market is buying.
This strategy is successful when a movement in the market is based on the over-exuberance of investors and not concrete information. That can push a stock’s price to an artificially high or low level. The trader can then take a long or short position with the expectation that the price will rise or fall.
Betting against market movements takes a lot of confidence, and your decisions must be based on strong technical and fundamental analysis. There is a real risk of significant losses if you bet against a trend that continues, so you must weigh up the risk and reward carefully before taking a position.
Breakout trading
Breakout trading occurs when a trader enters the market when the price of a stock, currency, or other asset moves beyond (i.e. breaks out of) a defined price range. A breakout trader takes a long position if the stock price moves above that defined price range or a short position when the stock falls below the price barrier.
Breakout trading is a very popular trading strategy because genuine breakouts, which must be accompanied by increased volume, can be the starting point for future volatility increases and large price swings. That potentially makes this type of day trading very profitable.
The first step in becoming a breakout trader is to identify current price trend patterns and determine possible entry and exit points. The longer the upper and lower price limits have been in place, the better the outcome will be when the stock price finally breaks out. It’s then down to you to decide when to cash in on your gains or cut your losses if the breakout proves to be more of a fake out.
News trading
The prices of stocks and currencies rise and fall quickly in reaction to news events. This gives rise to a day trading strategy called news trading. It relies on traders keeping a close eye on the business news to capitalize on stories that could lead to changes in an asset’s price.
For example, if a business posts a worse than expected earnings report, then a trader could short the stock in anticipation of a price decline. Alternatively, if there’s good news, such as better than expected performance or the release of an exciting new product, then a trader could buy the stock before an anticipated price rise.
News traders try to profit by trading in the time leading up to the news or immediately after. This period, when the market is reacting to the news, can lead to periods of high volatility that create the opportunity to make a profit. News traders typically hold their positions for a very short time to benefit from the immediate pricing fluctuations after the news has been made public.
Momentum trading
Momentum trading is another strategy that involves capitalizing on positive news stories or other events that lead to strong upwards moves in the price of an asset. These trends can be caused by tangible events such as earnings reports or stock analyst upgrades. They prompt momentum traders to buy shares and ride the stock’s price higher.
Momentum trading can be a short-term or long-term trading strategy. However, in the case of day trading, it’s all about riding short-term pricing peaks. Traders calculate momentum price projections based on historical data and price trends, as well as news stories and other macroeconomic events. Once they have identified short-term uptrends, the goal is to maximize their profits by selling the stock when they look to have peaked.
So, there you have it, five day trading strategies that can help entrepreneurs and small business owners take their first steps in the markets. However, whatever strategy you choose, it’s important to acknowledge that day trading is risky, and you should only invest money that you can afford to lose.
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