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Day Trading Beginners Guide in 2020

Uncategorized Sep 25, 2020
 

What is day trading?

Day trading is the act of buying and selling a stock in the same day. Some traders hold for hours, some hold for seconds. This will depend on the specific strategy you are trading.

How much money do I need to start day trading? 

The wonderful SEC has a rule in place called the PDT Rule. The PDT rule states that if your account is less than $25k, you can not execute more than 3 day trades within the same 5 day rolling period. 

Some brokerages located outside the US have found ways around this for US Citizens, but you will not be in the good graces of the SEC. Proceed to brokerages like F1Trade and CMEG at your own risk. It's important to note that the SEC has never prosecuted an individual trader for violating this rule, only the broker services themselves. I traded for years with an account of less than $25k, and never had an issue. It's very common. 

If you would like to stay within the good graces of the SEC and still have less than $25k, you will have to stay within the 3 trade limit. 

Long VS Short

Buying with the expectation of the stock moving higher is called "going long," and shorting with the expectation of the stock going down is called "going short."

What is "Shorting?"

Shorting is the reverse of buying expecting to make money going up. If you think a $10 stock is going down to $9, you can go "short" and will make money when the stock moves down.

 New traders seem to over-complicate this process due to the terminology of "borrowing shares" from your broker to go short. You do not have to file an application to borrow any shares, you don't have to call and ask your broker if they have any shares you can borrow. You can simply hit the button that says "Short," or "Sell." If you do not currently own shares, selling shares you don't have is "shorting." You have to return the borrowed shares by buying the same amount of shares to exit your position. Your hope is that you sold shares to someone at $10, and now you are going to return those shares to your broker after buying them for $9. Your broker gets the shares, you get the profit. 

*Imagine your friend has a car that someone else wants to buy. You ask your friend if you can borrow it. You sell the car to the other person for $20k. Your friend still wants the car back. To return a car you now need to buy one. Your hope is to buy one for less that you just sold the other one for. Your friend gets the car back, and you keep the profit. 

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Price Action/Technical VS Fundamental

We trade based on technical analysis. Large institutional traders trade mostly based on fundamentals. The basic idea is that if the fundamentals are good, the price of the stock should rise over time. Fundamentals might include the profitability of the corporation, debt, business plan/outlook, or about a million other things. 

For technical traders, we trade based on price action, with little regard for the fundamentals. This technical analysis might include technical indicators, previous prices(support and resistance), or a combination of the two. 

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Support/Resistance

In short, the resistance is a price above the current price level that the stock has hit several times in the past. Support is a price below the current price level that has been hit several times in the past. If you see changes in direction at those specific levels in the past, the odds are in your favor that a change in direction may occur again at that level. If in the past, everyone thought a stock was worth $9, but it’s now trading at $10, then $9 is a pretty good support. If on previous large buying runs people were not willing to pay more than $11 for that stock, then $11 is a resistance point. 

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What's a candlestick (how to read charts)?

Candlesticks are the active trader's way of watching the market. On TV, you might see Line Charts, graphs, and others, but that's only because people outside of the market do not know what a candlestick is. 

A candlestick represents time, and the price action during that time. The time choice is up to you. You can choose a candlestick that shows the action for 1 minute of time, 1 hour, 1 day, 1 week, month, or even your year. You can choose any round number you like (ie., 5 minutes, 20 minutes, but not 1 minute 23 seconds). 

In addition to the time value, you get 4 representations of the price action during the time you chose. A single  candle shows the open, high, low, and close. The open is the price at the start of the candle, the high is the highest price traded during that time, the low is the lowest price traded during that time, and the close is the last price traded during the time you chose. 

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Time frames

Different traders choose different time frames. Some traders might like to watch 1 minute candles, and some traders might like to watch 15 minute candles. What you watch depends on how long you want to be in the market. If you want to catch a longer move, you might want to watch 15min, 30min, or 1hr candles. This will weed out the noise that takes place during that time, and allow you to form a plan that captures longer term moves. 

If you want to be in for only a few minutes, then you will want to watch 1min or 5min candles. Some trades even watch 10second candles. Beware of looking at too short of a time frame as a new trader. I personally recommend that new traders learn on 5 minute charts. 

 

Moving averages

Moving averages are shown as a single line on the chart. They are showing the average price during the time frame you've chosen. 

A simple moving average shows an average of the closing price of each candle within the timeframe you've shose. As an example, if you have a 20 day Simple Moving Average (SMA) and are looking at the 1Day (daily) chart, the moving average will average in the closing price of each day for the previous 20 days. If you are looking at the 5 minute chart, the moving average will show the average of the closing prices for all 5 minute candles in the previous 20 days. These are used to indicate trend. You can use a 10 day SMA for very short term trends, and use a 200 day SMA for the long term trend. You may choose any number for the moving average. Most traders will use the 20, 50, and 200, although we have several strategies that use 9, and 100. 

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Technical indicators

There are hundreds if not thousands of technical indicators. The simplest would be volume, VWAP, or moving averages, but they can get very complicated. 

Popular indicators include RSI and MACD.

Indicators are "Lagging," meaning they can only take into account what has already happen. They do not know what is going to happen. If someone makes one that says what is going to happen, I suggest you committ to using that one, and please let me know what it is. 

MACD VIDEO

INDICATORS VIDEO

Volume

The volume is the total number of shares that were traded by all traders during the timeframe you are watching, for the stock that you are watching.

 If you are the only person to buy any shares of GML within a 5 minute timeframe and you bought 100 shares. The "Volume" will be 100 for that 5 minute timeframe. 

Choosing a charting platform

When choosing a charting platform it's important to ask where and when you will be doing your trading. 

  • Do you need a platform that has a great smartphone app? 
  • Do you need one that has a great web based option? 
  • Will you be able to use the software version of the platform? 
  • These are important questions to ask. 

 

I personally use Thinkorswim because the charts are amazing, it's pretty customizable, and it's free. Other popular platforms are TradingView (Great for web based or phone based), Webull (similar to trading view, but also has a slick software platform), Tradestation, Esignals, and there are a ton more. Find one that's easy to use, stays up to date with it's pricing data, and is affordable. 

For practing in learning the basics, I'd use somthing like Tradinview.com. It has free and easy to use charts available online, and also has a great app. 

Choosing a brokerage

When it comes to a brokerage, there are some really important things to consider. If you are going to find a broker that operates outside of the PDT Rule, all you really need to look at are the commissions. Commissions are a big deal for a trader with a small account. If you are trying to make $20 on a trade, but the broker charges $5 per trade, then it will cost you $10 to close a position. $5 in, $5 out. If you made $20 on the trade, but incurred $10 in commissions, that's a big deal. 

If you are going to stay within the 3 trades per 5 day rolling period (PDT) rule, then you have tons of options. If you are going to use Thinkorswim as a charting platform, then using TD Ameritrade, which owns Thinkorswim and is their trading platform, would be a good idea. There are planty of brokers with no commissions, including TD. Others include Robinhood, and Webull. 

If you are going to day trade and have more than $25 to open an account I suggest using Lightspeed. They have low commissions, and get you the best prices on the stock. I've used them as my go-to for day trading for a long time, and have rarely been disappointed. 

How do commissions work?

If a broker has a $1 commission per trade, that means they charge you $1 to buy, and $1 to sell. So technically to complete a trade the commission is $2. This is taken automatically from your account, and is taken whether you won, or lost. 

How does margin work? 

Many brokers will offer margin. This means they are technically letting you borrow money to buy stocks. It's common for brokers to offer anywhere from 2:1 to 6:1 margin. This means that if you deposit $1,000 you could have anywhere from $2,000 to $6,000 to trade. This helps when trading expensive stocks like Tesla (TSLA). 

Be careful, if you use $6k to get 12 shares of TSLA and it drops by 20%, you will be down $1,200 which is more than your account size. This means they can liquidate your shares (Margin Call), and you will lose your entire account, plus you will owe your broker the additional $200. You'll learn about how to easily avoid this in "Risk Management."

Bid/Ask

The stock market is an auction. In an auction there is something for sale and bidders and sellers are haggling back and forth. The bidder wants it for a lower price, and the seller is aksing a higher price. In this case, the item for sale is a share of a company. The bid is what buyers want to pay, and the ask is what sellers want to receive. The difference between these is called the "Spread."

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Order Types

When buying and selling you have different options as far as the type of order you can use.

Limit Order - Sets a specified value you are willing to pay. If a stock is trading at $10, and you enter a "Buy Limit" of $9.50, you are saying that $9.50 is the most you are willing to pay. You will not receive those shares unless the broker is able to get them to you for $9.50. Meaning the ask price will have to come down to $9.50 to fill your order. 

Conversely, if you are in the same trade and you set a "Sell Limit" of $10.50, your shares will  not sell for less than $10.50. This means your order will not fill unless a buyer (bid) is willing to pay $10.50. 

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Market Order

A market order means you want to buy or sell it NOW. If you buy it now, you will buy it at the price the sellers want, and if you sell now, you will sell it for the price the buyer want. 

Fill Price

The fill price is the price your order is fulfilled at. If you bought a stock for $10, your “fill price” was $10. 

Slippage

Slippage is the difference between the price the stock was showing at the time you placed your order, and the fill price. If you hit “buy” at $10, but were filled at $10.05- you had a 5 cent slippage. 

Level 2

A Level 2 window shows the bid and ask prices, and the amount of orders sitting at those prices. Level 1 will only show the current bid and ask, but Level 2 will show more than the currently traded bid and ask. It will show the orders waiting at different prices. For instance, if the stock is currently at $10, and you set a limit order at $10.50, your order of $10.50 will show on the Level 2 for all others to see. 

Traders use this to spot important support and resistance levels. If you see 1000 shares stacked at $10.05, and 500 shares stacked at $10- the price is likely to move down since there are more sellers than buyers. 

Profit/Loss Ratio & Risk to Reward

Profit and loss could be shown on many different levels. At the end of the say, you could have the profits you made on some trades, versus the losses that you took on other trades. This will add together to represent your daily P/L. 

Profit to loss on a single trade could all be called Risk to Reward, or Reward to Risk. Reward:Risk. Profit:Loss. 

Lets say you are risking $100 on a trade, and make $200. That's a 2:1 or +2. If you Risk $100 and lose on the trade, thats a 0:1, or a -1. If I make $300 when risking $100, I'll promptly call that a +3. If I hit my stop-loss, I call that a -1. 

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Stop-Loss

Your stop loss is the price at which you know the trade isn't working out, and it's time to exit and take the loss. Others will define this as the maximum amount you are willing to risk on a trade. They both work toether. If you buy a stock at $10, and your exit price is $9, you have to decide how much money you are willing to risk on the trade. Your stop loss is a loss of $1 on the trade. If you are risking $100, then you can get 100 shares of the stock. That way when you take the loss, you are not losing more than your predetermined max loss. 

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Risk Management

Managing risk is the most important focus for a new trader. Decide how much you are willing to lose per day, and how many trade you expect to take. If you can lose $500 in a day and you want to take at least 5 trades, then you can risk $100 per trade. It's a common rule to not risk more than 2% of your total account size on a single trade. 

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