Day trading is one of the most exciting yet misunderstood forms of making money from the stock market. I mean who doesn't want to make $593 in less than 1 hour or $2,000,000 with just $10,000 capital. Here are some common day trading myths exposed.
Myth #1 – Day trading is Impossible
Some researchers have concluded that consistently earning profit from multiple intra-day transactions after slippage and transaction costs is impossible. What the researchers are saying is that the shorter time frame you hold a company the less likely it is that you can profit due to trading commissions and prices moving against you when entering a position. But if you look to the amount of banks and hedge funds with full-time traders you could quickly discern that this simply can’t be true.
These traders work on commissions so if they cannot earn the firm profit they get fired or go home hungry. High frequency trading may hold firms in the micro-seconds yet it is profitable due to the low transaction fees and repeatable patterns that are net profitable. You also have rebate trading where the exchange pays you a credit to make a certain type of order (usually a limit order such as buying at the bid or selling at the ask) and even if you bought and sold a stock at the same price you can generate a profit. Trading fees have come down a long way and even from home you can trade 100 shares of a company as a market order for free or merely pennies depending on the exchange and order type. If share prices move up 1 cent on 100 shares you gross one dollar. From personal experience and by looking to HFT and proprietary trading firms I can conclusively say that it is very possible to make money day trading although not many people are well suited for this career and most fail at it for reasons other than it being impossible.
Myth #2 – It is a Zero Sum Game
Even many respected traders feel that intraday trading is a zero sum game where you only make money off other traders. The theory is that you need to be smarter than the other players to make money. This is not an absolute truth – although you can make money from fooling traders – not all trading needs to be at another persons loss.
Consider this: a company is growing and expanding the bottom line over the course of a year. Based on rising fundamentals a stock could begin the year at $100 and finish the year at $200 per share. If you buy the company and hold for one year, sell it to another investor for a double bagger, is that a zero sum game where the first investor stole profits from the second trader? Not at all since the higher price is supported by higher intrinsic value from company earnings. There does not need to be any losers in this scenario even if each investor bought and held the stock for 3 months before selling to the next investor – not a single investor lost money during this time period. And this can carry on for years as stocks like Apple have proven.
Now slice that $100/share gain into a monthly rise of $8.30 cents. Further split that down to the daily share appreciation of 40 cents. Break that up to an hourly gain of 5.3 cents. Thus, every hour a trader could buy 1,000 shares and sell to the next trader for a profit of $53 less trading fees. This would be sustainable over the entire year and every trader would walk away with profit. True, trading is anything but an hourly rise in share prices, but you get the point: trading is not gambling where you only profit from other people’s losses. If trading, and by extension investing, were a zero sum game then share prices would not go up over time as you took capital from their pocket to yours with none left over for the company’s share price.
Myth #3 – Day trading is Easy Money
I need not spend too much time on this one as the myth is ridiculous. Day trading is a job that takes mental, emotional and physical stamina. You need to be the complete package of knowledge and execution. Trust me when I say you will learn new things about yourself from trading. If anyone tells you that day trading is easy money – run away fast, they are not real traders.
Myth #4 – Day trading is Insanely Risky
Yes and no. What is risk? Do you have 3 – 6 months of time and a few thousand dollars to try out day trading? Can you afford to lose that sort of time and money? To learn any trade or craft takes time and money. How much do you have to pay to go to college or university? What guarantee is there that a suitable job will be waiting for you on the other side or that you’ll even still like the industry? I took two years of forestry science in my early 20s and now work in the financial and trading field. I wasted two years and tens of thousands of dollars to try a new career. If someone said I could try out forestry for three thousand dollars and in three months I would consider that as low risk compared to my other options. (Anyone can join a trading arcade or prop firm to leverage your few thousand into tens of thousands of buying power to satisfy day trading requirements but they won’t allow you to lose more than your security deposit thus limiting your loss).
Trading intraday is only as risky as you want it to be. Of course, only a small percentage of potential traders have what it takes to be successful in the long run and many will lose a few months and a few thousand dollars seeing if it is for them. As an entrepreneur I have tried many ventures and spent large amounts on advertising campaigns that yielded no extra business. Was that risk? Yes. But I could afford to find out whether it would work or not and I have no regrets trying. Day trading is only as risky as you make it. If you have a few months and a few thousand dollars to try something new – that is your risk. If you can’t afford to lose the time and money then the risk is too high and this should be avoided.