You're probably here because someone told you they are making lots of money day trading. Maybe you even downloaded the super popular app, Robinhood, and are now trying to figure out if day trading really is a viable way to make money.

In short, yes, day trading can be a great way to make lots of money, but it can also be a great way to lose money. So it's very important that you, especially as a beginner, learn as much as you can about day trading to avoid the mistakes many traders make.

So before you wire funds to a brokerage firm, read this in-depth day trading guide to understand the principles of day trading, how it works, the risks involved, and what it takes to become a successful day trader.

What is Day Trading?

Let's start with the definition. Day trading is buying and selling stocks within the same trading day. That's it. For example, Frank buys 100 shares of $ABC stock when the market opens at $10 per share, and a few moments later, Frank sells his 100 shares at $12 per share. Frank has officially completed a day trade, and he made $200. Not bad, right?

While day trading can be done in any market, most day traders trade in equities and FOREX markets due to the high liquidity, which is essential when buying or selling. The last thing you want is holding a stock with low liquidity that will turn your gain into a loss.

How Day Trading Works

Ok, so buy low, and sell high. Sure it sounds easy enough. However, what you are really seeking is volatility. Volatility is the movement or fluctuation of the stock intraday price changes. Without any volatility, there won't be any opportunity to buy low and sell high to make a profit when you sell. So you must look for active stocks, usually determined by volume, to achieve our goal of buying low and selling high for profit.

So, what causes volatility? Volatility is created by news. There are two main types of news, company, and market. Company news usually only affects the company's stock; a few examples are earnings reports, PR announcements, and 3rd party publications. Market news is broad events that affect industries or economies, like Federal Reserve Meetings, government policy changes, and environmental disasters.

Day Trading Risks

Here's the catch, volatility is a double-edged sword. It's great when you buy low, and the stock is moving up, but what happens if the stock you purchased keeps going down? Let's explore the risks involved with day trading.

You will take financial losses Unfortunately, trades don't always go in our favor, so we must learn to exercise risk management to preserve capital. Risk management is the decision-making process of buying more shares to lower the average cost of your position or selling the position at a loss to avoid further capital loss. The question behind this decision should be to determine whether or not the current stock you holding has a more significant potential of making a positive return compared to selling it at a loss and buying another stock that will.

Avoid expert advice from websites and Twitter gurus Websites that offer "hot stock tips" are usually front-loading the information they tell you, effectively buying stocks before publishing the information. Then expecting readers and followers to purchase the stock, which pushes up the prices, so they can exit above their purchase price.

Day trading is a high-stress environment This isn't meant to scare you. We want to be honest and upfront. As a day trader, you must watch charts all day long on your computer, track different tickers and their price movements, spot market trends, and news. This is very demanding but can be very rewarding. Just be sure to take this into consideration.

While there are risks in day trading, the best approach is to be honest with yourself and thoroughly understand them so you can make an informed decision. So next, let's understand the rules day traders must follow in order to have a successful trading experience.

What Are the Rules of Day Trading?

Our friends at FINRA, the Financial Industry Regulation Authority, set the rules of day trading and, in our opinion, are looking to protect investors from potential loss. So let's take a closer look at the major rules that affect day traders.

Pattern Day Trader

This is the big one. If you execute four or more round trip trades within a five-business day period, your brokerage will have to classify you as a pattern day trader. This is usually a one-way classification, which means that even if you don't make a lot of trades the following week, you will still be considered a PDT.

What's the big deal with being a pattern day trader? As a PDT, your brokerage is required by FINRA that you maintain $25,000 in your day trading account, which must be there before you start trading. So if your balance drops below the threshold, your account will be put on hold, and you won't be allowed to trade until the total equity value of your account is back above $25,000, either by adding more cash or the value of held assets increase. If you can't add more funds or your assets are not above the threshold, you will have to wait 90 days until the hold on your account is lifted. While this is a significant roadblock to day trading, we've provided strategies to day trade without $25k and avoid the PDT rule.

Regulation T Margin Requirements

Some day traders seek larger returns by borrowing funds from their broker. This is called margin, and it's a great way to access more capital quickly without having to add more yourself. Regulation T determines that day traders may borrow up to 50% of the purchase price of stocks, effectively doubling their purchase power.

Day Trading Buying Power

We've established that day traders can double their purchasing power through margin, but what about intraday margin? First, we need to calculate your maintenance margin excess to determine how much your broker will lend you during the active trading session. We do this by taking the previous day's portfolio balance at close and subtracting $25,000, the maintenance margin requirement.

Here's an example. As of yesterday's close, Frank's account has a value of $35,000. By subtracting the maintenance margin requirement of $25,000, we can calculate the excess at $10,000. We now take the $10,000 and multiply it by four. As a result, Frank's account has a day trading buying power of $40,000.

Suppose the day trading buying power exceeds the 50% limit imposed by Regulation T. In that case, the broker will assess a margin call and automatically reduce the day trading buying power to 2 times.

Margin Calls

A margin call happens when your account falls below the maintenance margin requirement of $25,000. Trust us, you always want to avoid margin calls. However, if you find yourself in a margin call, don't freak out. You can quickly fix this by either adding more funds or selling assets in your account. Just remember you will 5 business days to fix the margin call. Otherwise, your broker will liquidate positions in your account until your account is back above the $25,000 requirement.

At first, the rules in day trading may sound a bit intimidating and confusing, but you will get used to them the more you trade. Still, your brokerage firm, at least the good ones, will be there to inform you when there's a possible violation, how to avoid it, and the consequences if you continue to make violations.

Cash vs Margin Trading Accounts

Now that we've touched on margin trading, it would be good to breakdown the two main types of brokerage trading accounts, cash and margin. The difference between the two is based on the margin requirement of $25,000. A cash account only uses the available funds in your account to buy stocks. One thing to clarify is available funds aren't always equal to the total value of your account. This is due to the T+2 settlement of trades. Without going into the details of T+2, which is short for trade plus two days, let's use an example to illustrate this point. Frank has $25,000 in cash, buys $5,000 worth of stock $ABC, and sells his $ABC stock for $5,500 on the same day, netting a $500 profit. Ideally, we'd now expect Frank to have $25,500 available to trade the next day, but due to T+2, Frank has to wait 2 days for the $ABC trade to settle so he can access the $5,000 used to purchase $ABC and the $500 gain from the sale. So, in reality, Frank has $15,000 available to trade the next day. We can quickly see how this can become a problem and how margin accounts can fix that.

Margin accounts allow day traders to borrow funds from their broker, as defined above, using the excess amount of the total value. This helps traders get capital without waiting for settlement and missing out on market opportunities. Of course, margin is also used to leverage your funds to get a greater return using less of your own capital. For example, Frank buys 1,000 shares of $XYZ stock at $10 per share using $5,000 of his own money and $5,000 given to him by the broker. Eventually, Frank sells his 1,000 shares at $15 per share, a total of $15,000. He pays back the loan of $5,000 and keeps $10,000 in profit. Since Frank used leverage, he was able to get a 100% return on his initial $5,000 investment.

So our suggestion is to start with a cash account. Then, make some winning trades, build confidence in yourself, and naturally reach the limits of a cash account. Once you find yourself constrained, you should be ready to upgrade to a margin account.

Day Trading Psychology

As cliche as it sounds, confidence in day trading is a mindset. It is all about making the right real-time decisions; therefore, the psychology in day trading is very real. Sometimes you only have seconds to ingest, analyze, and react to the information presented to you in the market. The more you can remove emotions from the decision-making process, the faster you will be at making decisions, leading to becoming a successful day trader. Let's run through some of the major psychological barriers day traders face.

  • Fear: the instant negative emotion you feel when your account value goes below your initial investment. The immediate response is to stop the loss and exit your position, but this doesn't action doesn't justify the emotion you are experiencing. Essentially, you are telling yourself that you are incapable of being wrong immediately after entering a position; therefore, you should exit the position if you are wrong. The first thing you need to realize is that you most likely aren't buying stocks at the moment before they are destined to change direction, and you should expect an initial loss of value. Another valuable strategy would be to consider sizing your entries to mitigate the emotion of fear.
  • Fear of missing out (FOMO): the belief that a stock will continue to go in a certain direction in the immediate future, making the trader fear they will miss out on potential gains if they don't enter the trade. While there could be cases where this is true, and the stock does go in the same direction after entering. The way to mitigate this emotional response is to consider making a trade before the stock price moves.
  • Greed: the selfish emotion to want more. You bought a stock and are now up on the position. Ideally, you want to take profits because that's the ultimate goal of day trading, but you now feel you can make even more profits if you hold it a little longer. That is greed. This is often the most difficult emotion to overcome, but you need to realize that you will most likely never sell the absolute top of any position you enter. Once you accept that, you will be happy to take profits and move on to the next opportunity. Remember, pigs get fat, hogs get slaughtered. Be the pig, eat and move on.

Understanding the emotions you experience in day trading is vital to keeping them under control. Once you can clearly identify what you are feeling, you can react logically, avoid making emotional mistakes, and mitigate future losses. This will be the most valuable skill you can develop as a daytrader, so be cognizant.

Risk and Money Management

Now that we have our emotions in check, it's a great time to move into risk management. The goal of risk management is simple, avoid losing money. We do this with position size, dollar-cost averaging, stop losses, and taking profits. Let's go over each one in more detail to understand how they play into our risk management strategy.

Position size is the total amount of money you are willing to risk in a trade. Determining your position size is straightforward. Start by setting a percentage limit of your total portfolio that you will risk per trade. Typically, this is between 1 and 5%. Let's use 5% as an example and say our account has $30,000. So, multiplying $30,000 by 5% gives us a position size of $1,500. Now that we have our position size, we can move to dollar-cost averaging.

Dollar-cost averaging (DCA) is an investment strategy to divide up the total investment over a pre-determined number to lower the entry price of an asset. In other words, when you buy a stock, it most likely isn't going to go up, and you will be at an unrealized loss before it can become a realized gain. So the strategy is to divide up your position size into deployable parts to protect yourself from this downward volatility.

Take the position size of $1,500 from our previous example, and let's set the number of capital deployments to 4. Dividing $1,500 by 4 determines that each capital deployment will be $375. Great, we now know how to deploy our capital; we need to preserve it using stop losses.

Stop losses are limit orders placed to exit a position to mitigate the further loss of capital. Essentially, you want to draw a line and say that you are willing to take the loss if the stock goes below this line. Of course, nobody wants to lose money, but no trader is right every time. Therefore, once you deploy your total position size and the stock continues to go down, you must eventually take a loss to preserve your capital for another opportunity in the future. Of course, setting this exit threshold line depends on your risk tolerance.

Building on the example from earlier, let's add our stop loss. Say that stock $ABC continued to go down, and we made all four capital deployments. We now have a lower average price of $5, but we must realize that this stock could keep going down. So we need to set a stop loss to know how much of our position size we are willing to risk if $ABC continues to go down. Let's put our stop loss at 2% below our current average entry price of $5. This means we will cut our position and take a loss if the price of $ABC goes below $4.90.

Ok, great, we've mitigated our downside risk to 2% of our total position size and know that the max amount of capital we will lose is $30 if the stock doesn't reverse to the upside. Well, what if it does start going up? We need to set a rule to manage our position when we have unrealized profits. Otherwise, greed can easily cloud our judgment.

Let's finish off the example. We know that our entry is $5, and we are risking 2%, so we must make sure our reward is worth the risk. This is known as the risk reward ratio. Determining the risk reward ratio of your entry helps determine whether or not the trade is worth holding. So for us, we are risking $30 or 2% of our position size and would like to make at least $30 or more to make the risk worth the trade. So we can set our risk reward ratio at 1:1 and take profits when we see a 2% gain in our position.

Awesome, we've ran through an entire trade from buy to sell, and implemented rules to keep ourselves objective and not let emotions control the decision-making process. Next, how do we know which stocks are worth trading? Keep reading.

How to Find Stocks to Day Trade

So far, we've established a pretty good foundation on what it takes to become a successful day trader, but how do we actually find stocks to trade? First, we need to identify stocks that are good potential trading opportunities. The secret to finding these stocks is using a stock scanner. A stock scanner is software that searches all the publicly traded stocks on all exchanges and returns a list of stocks that fit the parameters you are looking for, like market cap, price, volume. Of course, your trading strategy heavily influences the criteria for finding opportunities with a stock scanner. So you'll want to experiment and tweak scanner parameters as you go until you find something that is successful for you.

The second important tool for finding stocks to day trade is breaking news software. Remember, news are catalysts that drive a lot of momentum in stocks, and as a day trader, you need to stay up to date with the latest news to identify relevant stocks and make winning decisions. Breaking news providers like Benzinga have real-time feeds showing the latest news in the overall market or specific sectors you care about. Again, this is crucial for day traders looking to capitalize on market sentiment as it changes.

Great, you know now how to generate a list of potential stocks to trade. The next step in the process is knowing how to identify which stock from your list has the most potential to become a profitable trade for you. So let's continue and learn about trading strategies.

Day Trading Strategies

Trading strategies are the most subjective part of day trading because there is no bulletproof formula to executing successful trades. However, as you get comfortable in the fast-paced trading environment, you will start to develop your own trading patterns and methods that fit your trading style. Let's highlight the most common strategies so you can get started.

  • Range Trading: The most common technical analysis trading strategy used is Range trading. The strategy uses support and resistance levels to find buy and sell opportunities.
  • Scalping: Small trade on quick prices movements. This strategy requires a quick reaction to price action because you can go from a gain to a loss within seconds.
  • Momentum Trading: Using news events to find stocks with volatile price action. A volatile stock will allow for opportunities to seek profits.
  • High-frequency trading: Writing computer algorithms, a fancy way of saying a set of rules, defined by a developer, tells the computer what to do when certain conditions are met. Usually, trading algorithms are written in languages like Python, Java, or Go. This can be an effective strategy if the algorithm can return winning trades, but that is more difficult than it sounds.

Remember, each trader has their own trading strategy that works for them. The idea here is to expose you to the most common styles so you can have something tangible to start and build from there. In addition, some trading strategies are dependent on trading software for advanced charting and indicators. So let's compare brokerage firms to see which have the tools to create more complex trading strategies.

Best Brokerage Firm for Day Trading

Obviously, a brokerage firm is essential because you can't buy or sell any stocks without one. Yes, there are many to choose from, but don't just send money to the first one you find. Depending on what you are looking for, some firms may be better suited for your needs than others, so be sure to analyze each one before signing up. While many exist, the main features we look for include advanced indicators, research tools, PFOF, order execution, and trading hours. So here are our recommendations for brokerage firms.

  • Robinhood: For beginners who are looking to slowly get into day trade, Robinhood is a great entry firm. With 0% commissions, fractional shares, and limited to open market hours. Robinhood provides great guard rails to force beginners into developing good day trading habits.
  • Webull: If Robinhood is too limited for you, then Webull is the next step up for day traders. Again, 0% commissions and fractional shares exist, but Webull differentiates itself by offering advanced charting indicators like moving averages, RSI, VWAP, and MACD. In addition, Webull also lets you trade pre-market and after-hours, which is excellent for high price volatility exposure.
  • TD Ameritrade: TD Ameritrade is the entry-level for serious day traders. TD Ameritrade offers day traders dedicated day trading desktop software, Thinkorswim. This gives traders tools such as a stock scanner, news aggregator, research tools, advanced charting indicators on various timeframes, and access to multiple markets, including options, bonds, forex, OTC, futures, and equities.
  • Interactive Brokers: For the advanced day traders, there's Interactive Brokers. Everything you'd expect from TD Ameritrade, but the difference is in the order execution. Interactive Brokers has an order execution engine built to achieve optimal execution and promotes a net price improvement of $0.47 per 100 shares. Also, access to some of the lowest margin rates in the industry makes Interactive Brokers an excellent firm for advanced day traders. Please take your time finding the right brokerage firm for your needs. Moving your funds from one account to another is never fun, and it takes time away from day trading, so be sure before you commit.

Day Trading Alternatives

Are you still unsure and maybe considering that day trading doesn't fit your current situation? Well, if you still like the idea of making money from stocks, but want to explore some alternatives, then here are other ways to capitalize on the stock market and make money.

Buy and Hold

The most common strategy when it comes to stocks. The best advice for this strategy is to buy things you know. For example, if you are a real estate professional and understand the real estate business very well, the obvious move would be to look into real estate related stocks. This will help you maximize what you already know and mitigate future losses.

Swing Trading

Maybe the fast-paced, high-energy day trading environment is just too much for you, then swing trading could be a great second option. It's similar to day trading, except you hold positions for days or weeks before selling. Think of it as a slowed-down version of day trading. This is also an excellent way for beginners to mitigate their losses and ease into day trading.

Fantasy Stock Trading

If your concern is risk, fantasy stock trading is the best way to mitigate your risk. With fantasy stock trading, you only risk the entry fee, usually around $20. Pay the entry fee, join a game, and trade with real-time stock trading data. Then, if your portfolio performs well against other traders, you receive a payout from all the collected entry fees. It's a great alternative if you look to mitigate risk, avoid the PDT $25,000 minimum, become a better trader, and possibly multiply your money.

Stock Market Simulators

Not ready to risk real money? Stock market simulators are a great way to get real world experience in the stock market using a pre-funded portfolio with fake money. Get familiar with trading platforms, test new strategies, and try new indicators without risking any real money. Get started today with the 8 best stock market simulators for day traders.

Bottom Line

Day trading is a great way to make money, but remember, there are many skillful participants in the market, and they are looking to make money. Therefore, you should apply what you learned in this guide and continue the pursuit of self-discipline, understanding of the market, and human psychology to be successful.