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Day trading 101: What it is and how it works

This fast-paced trading style can be lucrative — and highly risky.

Day trading can be profitable. But even the most experienced and well-equipped day traders experience losses. Is day trading worth it? It depends on your risk tolerance and skill level.

What is day trading?

Day trading is the act of buying and selling the same security over the course of a single trading day. For example, let’s say you purchase three shares of Apple stock when the market opens and sell them that same afternoon. That’s a day trade.

Day trades can be executed in any market but occur most often in the stock and forex markets. Day traders typically aim to end the day with no open positions, which means they don’t hold securities overnight.

How does it work?

Day traders apply a significantly different approach to trading than buy-and-hold investors. Unlike passive strategies that seek long-term stability when selecting securities, day traders apply an active trading strategy that capitalizes on market volatility. Day traders use short-term market fluctuations and high leverage to their advantage, pouncing on small price movements to turn a profit.

To capitalize on the opportunity for profit, day traders must be willing to invest sizable sums, as this is the only way to make money on such small price movements. The more you invest, the more you have to gain — and more you could lose.

Investing strategies

There are several short-term strategies you can explore. Here are a few examples.

Trend trading: This involves studying the past price movements of stocks within a specific time frame, usually a few months. From this evidence, trend traders make predictions about the direction stock prices will make in the future. They aim to buy stocks early during an upward trend and sell when they believe they will reach their peak based on the available evidence.

Swing trading: This strategy entails holding onto a stock for a period of between a few days to a few weeks. Swing traders use different analytical methods and tools to predict the highs and lows of a stock’s price movements and then sell on the upside if those predictions materialize.

News-based trading: This strategy relies on — you guessed it: news. News events can have a powerful impact on affected industries and sectors. News-based trading aims to wield the volatility triggered by news events to the trader’s advantage.

To execute these strategies, you’ll need a brokerage account.

Our pick: Interactive Brokers

Interactive Brokers offers an impressive range of tools and low fees for active or professional investors.

  • Create watchlists, set alerts and follow news on the Trader Workstation platform
  • Choose from IBKR Pro or IBKR Lite depending on your investing style
  • All users older than 21 must meet a $20,000 liquid net worth requirement for a cash account
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on Interactive Brokers's secure site

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Available asset types Stocks, Bonds, Options, Mutual funds, ETFs, Currencies
Stock trade fee $0
Option trade fee $0 + $0.65/contract
Annual fee 0%

What is the pattern day trading rule?

The pattern day trading rule applies to day traders that execute at least four day trades within five business days. The rule was established by the Financial Industry Regulatory Authority (FINRA), is governed by the US Securities and Exchange Commission (SEC) and applies to all US brokerages. Pattern day trading isn’t illegal — but the pattern day trading rule limits who can execute day trades and when.

Your broker may deem you a pattern day trader if your day trading activity accounts for more than 6% of your total trading activity in five days. At this point, you’re required to bring your account balance above $25,000 to continue trading.

If you’ve been marked as a pattern day trader and fail to maintain a minimum account balance of $25,000, you won’t be able to day trade.

Is there any way to trade intraday without having $25,000 in my account?

If you’d like to day trade and don’t have the means to bring your account balance above $25,000, there are a few loopholes:

  • Make fewer trades. As long as you make no more than three day trades in five days period, you can execute day trades with less than the required pattern day trader minimum.
  • Trade outside the US. Foreign markets and brokers may not impose the same rules or account minimums as the US. Research international stock markets and brokers to find out about day trading regulations.
  • Trade forex. Currency pairs don’t qualify for FINRA’s pattern day trading rule, so you can get started in the forex market with less startup capital.
  • Trade futures. FINRA’s $25,000 account minimum also doesn’t apply to futures contracts, so if you’re determined to day trade and don’t have the capital, look into the futures market.
  • Open multiple accounts. With two accounts at two separate brokerages, you can make up to six day trades in a five-day period without being subject to the pattern day trading rule.
  • Join a firm. If you’d like to pursue day trading as a career, consider joining a firm. You’ll be provided with additional trading capital and have the opportunity to learn from more experienced traders.

Can I day trade using a cash account?

Some brokers will let you day trade in a cash account — but only using settled funds. Cash accounts must use settled funds to cover trades to avoid freeriding, which is the act of buying and selling securities from a cash account without having the capital to cover the trade. Stock and ETF transactions take three days to settle, while mutual funds and options settle in one day.

Freeriding is illegal and prohibited by the SEC. Traders who engage in freeriding will have their accounts suspended for 90 days. The freeriding rule makes it very difficult to day trade using a cash account.

What are the risks of day trading?

Despite the potential for profit, many investors shy away from day trading. And that’s because day trading is inherently risky — especially for beginners.

If you’re a beginner, you may be more suited with passive investing or a buy-and-hold strategy. This involves purchasing stocks and holding onto these for years or even decades regardless of what happens to the market.

The rationale behind this long-term strategy is that even if the market faces a downturn, it would eventually recover and you can recover your losses in addition to profits.

In fact, the average annualized total return of the S&P 500 index over the past 90 years is 9.8 percent. The S&P 500 index is composed of the biggest companies in America by market capitalization and is often seen as a reliable indicator of the overall market’s shape.

You can even invest in index funds that track the S&P 500 and other indices. These aim to reflect the return of their respective indices rather than take the inherently riskier approach of beating the market.

Many robo-advisors also recommend diversified portfolios based on your particular risk tolerance and investing goals. Most are automatically rebalanced. So you don’t have to do anything. On the other hand, day trading involves plenty of time and attention. You need to be on top of factors like market news, the interest rate environment and the most sophisticated research tools you can afford.

A deep analysis is required for investing in penny stocks, which you should avoid especially if you’re a beginner. These typically trade at $5 or less per share, but are often risky and illiquid stocks of companies without a proven track record or reliable information about their financials.

There are many ways to lose money day trading, from faulty technology to inferior research tools. Day trading is a high-risk, high-reward investment strategy. And the best way to lower your risk is to familiarize yourself with common day trading pitfalls.

Trading on margin

Margin trading is trading with borrowed money. When you trade on margin, you borrow funds from your broker to execute a trade. You’ll be asked to pay back what you owe with interest and your account serves as collateral for the loan.

So long as the trade moves in your favor, trading on margin can be a lucrative practice: you increase your buying power by borrowing funds, execute a profitable trade, pay back what you owe and pocket the profit.

The problem with margin trading is that the potential to compound the results of a trade swings both ways: you may increase your profit — but you may also multiply your losses. Stop-loss orders may help cushion the impact, but margin trading remains an inherently risky strategy best reserved for those with extensive trading experience.

What to look for in a day trading broker

The right broker can make or break your day trading experience. Here’s what to look for in a broker:

  • Reliability. The last thing you want to worry about when executing a sizable trade is a service outage. Unfortunately, outages do happen, and some brokers are more prone to them than others.
  • Speed. Day trading is a time-sensitive activity, so your broker’s fill times will factor into successful trade execution. Look for slow fill time complaints on trading message boards to find out which brokers have a reputation for delayed executions.
  • Reputation. Your ideal day trading broker should maintain a positive online reputation. Review trader feedback on the Better Business Bureau, Trustpilot and Reddit to find out what investors think of the platform.
  • Research tools. Many day traders rely on up-to-date market news and research tools, like advanced stock screeners and charts, to pull off profitable day trades. Find out what research and analytics tools your broker offers and whether they’re sufficient to support your trading strategy.

Analytical tools

Sophisticated analytical software can help inform day trading decisions and may include any of the following:

  • Automated pattern recognition. This software is capable of detecting technical patterns like flags, channels and Elliot Wave patterns.
  • Neural network applications. These programs utilize neural networks to detect predictable patterns in price movement.We add
  • Backtesting. This program lets traders backtest trading strategies to analyze how they would have performed in the past.

Most beginner to intermediate traders don’t require these tools to execute trades, so don’t be surprised if you find platforms like Robinhood and Public lacking. That said, platforms that cater to advanced traders, like Interactive Brokers and TD Ameritrade, may be better equipped.

What do I need to start day trading?

As a day trader, it’s your responsibility to decide what tools are integral to your success. But if you’re looking to lay some groundwork, here are some common tools traders use:

  • Computer. A trading necessity to execute trades through your brokerage account. While a mobile device is less essential, it can help you check positions and execute trades on the go.
  • Internet connection. Before you sign up for an online brokerage account, you’ll need a quick and reliable connection.
  • Broker. Choose your broker carefully and make sure its platform is suited to your trading needs.
  • Trading capital. Unless you plan to circumnavigate FINRA’s pattern day trading rule, you’ll need at least $25,000 to day trade regularly.
  • Strategy. Test trading strategies through a paper trading account before you put your cash on the line.
  • Time. Most successful day traders don’t trade as a hobby, but rather as a career. If you only plan to dabble in trading a few hours or days a week, day trading may not be for you.
Disclaimer: The value of any investment can go up or down depending on news, trends and market conditions. We are not investment advisers, so do your own due diligence to understand the risks before you invest.

Bottom line

Day trading isn’t for everyone. It’s potentially profitable, but even with a solid strategy, a reliable broker and the right tech, the risk of losing money is high. Day traders must be prepared to lose capital, especially when trading on a margin.

The right broker can play a pivotal role in your success as an investor. Explore your platform options among multiple providers to find the best account for your needs.

Compare stock trading platforms

Name Product Stock trade fee Asset types Option trade fee Annual fee Signup bonus
Sofi Invest
Stocks, ETFs, Cryptocurrency
A free way to invest in stocks, ETFs and crypto.
Stocks, Options, ETFs
Free stock (chosen randomly with a value anywhere between $2.50 and $200)
Sign up using the "go to site" link
Make unlimited commission-free trades in stocks, funds, and options with Robinhood Financial.
Interactive Brokers
Stocks, Bonds, Options, Mutual funds, ETFs, Currencies
$0 + $0.65/contract, $1 minimum
IBKR Lite offers $0 commissions, and IBKR Pro offers advanced tools for professional traders.
Stocks, Options, ETFs
Get one free stock valued between $2.50 and $250 when you open an account, one more with a deposit
Open an account
Margin financing rates start at 3.99%. No monthly subscription fees for margin.
Stocks, ETFs
$0 per month

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