In defense of day trading

#1
There's a hoary old Wall Street cliche that "if you don't know who you are, this is an expensive place to find out."

One of half of this statement is true: you can find out who you are trading stocks. The other half is false: the stock market is, in fact, a very cheap place to learn that lesson.

As I've mentioned elsewhere, I've been using the Robinhood iPhone app to do commission-free trading for the last 9 months or so, and while I've made a killing (a bull market makes everybody a genius), the lessons trading has taught me about myself are much more valuable than the money I've made.

So I frankly think every investor should start by trading a small amount of money on a free platform like Robinhood, so they can learn their own answers to these interesting questions.
  • What will you do when a stock goes down? There are two approaches you can take to a stock going down after you've bought it. If you think it was a good stock at a good price at its earlier value, then it's an even better value at its new, lower price, and you'll buy more. If you think it was a good stock guaranteed to go up, but instead it goes down, then you'll think you made a mistake and sell at a loss. These are both perfectly reasonable reactions, but as an individual its essential to know which kind of person you are.
  • What will you do when a stock goes up? If you bought a stock because you thought it would go up, and it does, you might congratulate yourself on your correct prediction of the stock's future movement and sell it for a profit. Alternatively, if you thought it would go up and it did, you might find the fact that it went up reinforces everything you previously thought about it, and buy more. Again, both reactions are perfectly reasonable, but learning which kind of person you are is extremely valuable.
  • What will you do when a stock stays flat? If you buy a stock because you think it's promising, or because of its higher-than-average dividend yield, and it stays flat, you might decide that you were wrong, and it's not promising, or that other market participants don't believe it will keep its elevated dividend, and you might sell. Alternatively, you might hold the stock forever, expecting that it will continue to spin off profits that will allow you to increase your investments. Both are perfectly reasonable reactions, but if you don't know which one you will have, you're guaranteeing trouble for yourself.
The reason day trading is an ideal place to learn who you are is that free trading platforms like Robinhood allow you to buy single shares of most listed stocks and ETF's. So for two or three hundred dollars you can buy a whole portfolio of companies and learn for yourself how you'll feel when some of them go up, some of them go down, and some of them stay flat.

The reason this is such a valuable learning experience is that even if you're a passive, indexed investor like me (I only have one mutual fund, the Vanguard 500, in my retirement account), you are likely to respond exactly the same way to changes in the value of your passive, indexed mutual fund investments as you do to changes to your day trading portfolio. If you buy more GE stock when GE is going up, you're also the kind of person who will pile into US equities when US equities are in a protracted bull market (*cough* now *cough*). If you sell at the first downward tick in your Wal-Mart shares, you're also the kind of person who will sell at the first downward ticket in the Vanguard 500 — and miss the next bull market.

What this experience has taught me is that I'm basically the person I hoped I'd be: when my stocks go down, I buy more, and when they go up, I sell them and pocket the profit. When they stay flat, I collect the dividends.

But it might teach you something else! As I joked to @Matt last weekend, the only other place you can learn so much about yourself is the craps table, and craps is a hell of a lot more expensive than commission-free stock trading.
 

ToothMiles

Level 2 Member
#2
Thanks for the report. I started with Robinhood 1 year ago and it is amazing. Learnt my lesson hard way dealing with speculative stocks. Now I plan to focus on long term and with good dividend paying stocks.
 

dr0832

Level 2 Member
#3
A couple pieces of advice as I have been day trading for a living for 14 years. Successful day traders rarely if ever average down, buying more as a stock or other type of asset goes against them. That is one of the golden rules of trading. Instead they average up. It's not that an asset price will not come back because many times it will, sometimes almost immediately. Rather successful traders know that risk management is the key to success. 9 out of 10 times the asset may come back after you double down, but that one time it does not you are done and the game is over. That is what traders must avoid. Buy low and sell high is not the only way to make money. Buying high and selling higher is a major theme for day traders. Averaging up is a much better idea because then the stock can pull back 50% of the range it went up from your entry and you are still breakeven.

Robin is not a good broker. Commissions are how brokers make money. While commissions are very important because they reduce or eliminate profits, the fact is the executions speeds you get from a broker like Robinhood are a joke. Slippage is a much greater cost than commissions and you will have massive slippage with a robinhood or you will miss any fast moving opportunities. Day trading is all about how fast can you get in and out. On top of this customer service is very important with brokers because sometimes you are in a trader and the broker goes down and you can't get out. A broker that you don't pay will not provide good customer service. Again day traders must protect their capital at all times so it's important to pay extra to have that service.

Hope this helps.
 

Matt

Administrator
Staff member
#5
Hey @dr0832 thanks for the post. I should start out by stating I'm not an advocate of day trading, so that may taint my opinion on the thread.

The main reason I don't like it is that people don't really understand what they are doing, which is fine providing that the money that they lose is affordable. I liken it to heading to Vegas and playing Blackjack without knowing anything other than it is a game of 21. There's little barrier to entry beyond having the cash to float, and neither cares if that cash could be best used elsewhere. That said, if the money is available, it is a great way to learn about stocks and markets.

Regarding the execution - I'm not sure how Robinhood executes, it might be bad, it might be good. But all that is relative to the marketplace, I'd recommend that new folk interested in day trading and execution through retail brokers read up on High Frequency Trading - a good book on the history of the topic is Flash Boys by Michael Lewis.

In terms of making money, no commissions does not equate to poor quality. It just means that there is another revenue stream that isn't apparently obvious. Robinhood has a revenue model based upon margin, and they sneak it in, so people miss it. You can see this if you examine their ability to offer Robinhood Instant.

Last up - before anyone gets too deeply into Day Trading I would suggest that they understand the following:

  1. Wash Sales
  2. Margin (and what happens when you get a Margin Call)
  3. CAPM (using any existing debt as your RF Rate)

Good luck!
 
#6
I dabbled in day trading for an year. As dr0832 mentions, speed of execution is what determines success. Multiple instances when I got the whiff of the market but couldn't capitalize the opportunity as the broker was incompetent. There's only a limited number of shares available to buy/sell at a particular price and you better be the first one.
 
#7
@PurpleSquirrel I'm interested in how you "judge" the performance of your broker. Surely even a "good" broker won't always get you the price you want, and even a "bad" broker will get you the price you want most of the time, right? How do you know when a good broker is earning their fee and when a bad broker is dropping the ball?
 
#8
@PurpleSquirrel I'm interested in how you "judge" the performance of your broker. Surely even a "good" broker won't always get you the price you want, and even a "bad" broker will get you the price you want most of the time, right? How do you know when a good broker is earning their fee and when a bad broker is dropping the ball?
Easy. When I had 3 broker accounts, I initiated an identical trade across all the 3 brokers. One of the brokers was consistently the fastest in execution. I did this multiple times over an year to verify that the broker's stats hold.
 
#9
@dr0832, I've been involved in day trading in the mornings and evenings when permitted (when not working/or when working from home) as well as swing trades and I completely agree with your advice from a trading perspective. It really depends on what the investment method is - most people will average down/up if they use the passive index method and intend to hold all of this way into the future without selling. Especially when daytrading, the broker selection is vital. You do pay for what you get...

@Matt, I do also agree with your assessment on day-trading that it is usually packaged/sold as a way to get rich quick, which is far from being easy as the effort to get there is astronomical. Seems like there are never enough disclaimers out there. There are people who do well in this, but you really gotta know yourself and be honest about things. I second Matt's advice in really getting to know how margin works, wash sales and definitely using money that you can afford.

@Free-quent Flyer, I did try trading stocks on Robinhood, and one thing that I didn't like about it is that it is solely based on a phone app. Maybe i'm just old fashioned and like to execute trades on a computer as well as doing the analysis. But I do agree day trading is a great method to learn about yourself and how you handle your investments, and doing so with 1 or 2 shares in a low risk account is a great way. P.S Keep writing the good stuff on both blogs.

I personally advocate day trading, it is my "weapon of choice" for FIRE and also very passionate about it. However, a lot of things to learn and you're always on your toes. Definitely not for the faint hearted. I know myself well enough to know what i'm getting into. I've always traded highly leveraged instruments such as futures and forex, as that really teaches you to respect risk, but that's just my own preference. So day trading gets my vote :). My advice (not for passive index investing) is to know in every trade, how much you are willing to risk and to obey that every time. No ifs, no buts. Oh and try not to get emotions get the better of you.

Passive index based investment definitely is a good approach for most if you're not really passionate about trading or willing to put in the time and effort to really try to learn this. The worst is managed investments, where you pay exorbitant management fees and most don't really beat the result of the indices, hence the increase in passive index based investing.
 

dr0832

Level 2 Member
#10
Robinhood actually has been beneficial because I believe they have caused the other retail brokers to drop their absorbent commissions from $7-10 per side now down to $4.95 just in the past few weeks. With that said I do not agree. You cannot trade off of a phone and ever expect to compete with a professional trader and be successful. You also will get your orders picked off every time by HFT's and will lose a lot in slippage because you will have to cancel your orders or only fill 100 of a large order and have to place multiple trades to get a full position. It really doesn't matter for people starting out because they are going to end up losing anyway and the size of there orders will most likely be tiny anyway.

There are less known brokers that cater to experienced day traders that charge $1.95 or even as low as $.05 a trade for the HFT firms that are making millions of trades a day. Commission rates are completely negotiable and are all about the volume a trader makes and there relationship with their broker. Some of these brokers provide near instant executions and have great support.

For most people trading is gambling but for experienced traders it is so far from this. You would be very surprised and quickly changed your beliefs if you saw how real traders operate. In the short term I can predict where a price is going given specific price action. There is very little randomness if you take out news flows which can completely distort the price of a security temporarily. None the less there aren't that many successful traders because trading is a zero sum game and one person wins, while the other loses in the short term. On top of this I literally spend every minute of the day that I am not eating or sleeping or planning my next trip (and ms-ing), obsessing over the financial markets. I don't have any other interests to be honest. I don't watch sports, I don't watch tv, I don't follow politics, and I don't use social media. It takes a specific type of person with a specific mindset, to become a consistently profitable trader.
 

JuanG

New Member
#11
For most people trading is gambling but for experienced traders it is so far from this, all need to learn forex market, You can try forex demo at least six months of practice, much reading of technical analysis and fundamental to succeed
 
#12
Robinhood actually has been beneficial because I believe they have caused the other retail brokers to drop their absorbent commissions from $7-10 per side now down to $4.95 just in the past few weeks. With that said I do not agree. You cannot trade off of a phone and ever expect to compete with a professional trader and be successful. You also will get your orders picked off every time by HFT's and will lose a lot in slippage because you will have to cancel your orders or only fill 100 of a large order and have to place multiple trades to get a full position. It really doesn't matter for people starting out because they are going to end up losing anyway and the size of there orders will most likely be tiny anyway.

There are less known brokers that cater to experienced day traders that charge $1.95 or even as low as $.05 a trade for the HFT firms that are making millions of trades a day. Commission rates are completely negotiable and are all about the volume a trader makes and there relationship with their broker. Some of these brokers provide near instant executions and have great support.

For most people trading is gambling but for experienced traders it is so far from this. You would be very surprised and quickly changed your beliefs if you saw how real traders operate. In the short term I can predict where a price is going given specific price action. There is very little randomness if you take out news flows which can completely distort the price of a security temporarily. None the less there aren't that many successful traders because trading with a demat account is a zero sum game and one person wins, while the other loses in the short term. On top of this I literally spend every minute of the day that I am not eating or sleeping or planning my next trip (and ms-ing), obsessing over the financial markets. I don't have any other interests to be honest. I don't watch sports, I don't watch tv, I don't follow politics, and I don't use social media. It takes a specific type of person with a specific mindset, to become a consistently profitable trader.
This is so helpful. I am in total agreement with what you had mentioned about a specific type of person having a specific mindset to be a consistent profitable trader. I would like to add that even if you have the desire to build wealth but active investing skill and knowledge are still missing. Risk management isn’t even part of your game plan. Your portfolio losses and gains feel out of control and have no relationship to anything you feel responsible for.
 
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