Knowledge and luck criticial to succesful day trading

Previously trading actively on the stock market would only have been carried out by individuals working for large financial institutions. However through online trading it has become easier for anybody willing to take a punt to get in the game.

Day traders are usually well educated and are not risk adverse. However, amateurs have been caught out on the idea that they can get rich quick and many traditional financial advisers urge caution about day trading.

Traditional investors buy and hold stock, deriving income from the investment and in the future may liquidate the assets if they have appreciated in value. Day traders buy and sell within the same day, rarely holding a position overnight or after the markets close. Those who get involved in day trading say it’s a lucrative career, but the losses can far outweigh any profits to be made, according to Paul Stewart, lecturer in Financial Services at Ulster University.

Real investing is a longer-term deal

While there are lots of companies now providing this service, it’s hard to find the benefits to this type of trading, Stewart says.

“They are not buy and hold investors, which is what traditional investing is. Real investing is a longer-term deal,” he says.

“It’s a little bit more acceptable than going to the bookmakers but it’s not much different for amateur investors and really is just an alternative form of betting,” he says.

Stewart says while it can “possibly” be done profitably, losses can “absolutely” be accrued.

AI can grow and learn, so you're playing games against computers pretty much

“People have to appreciate what they’re playing against. You’re betting on short-term price movements, looking to buy low and sell over a short period. You look for a price you think is going to fall and you will short that asset, which is taking a bet that the asset will fall and you profit from that. Way more than half of trading is being conducted algorithmically, so people with enormous resources are writing computer programmes to look for signals of where they think the prices will rise or fall and place trades automatically either to buy or sell,” he says.

Trading is slowly evolving into the use of AI. “The algorithm is rigid so it keeps doing the same thing over and over again. But AI can grow and learn, so you’re playing games against computers pretty much,” he says.

Contract for difference

Stewart explains one of the common ways of day trading – a contract for differences (CFD) is a financial contract between a trader and broker that pays the differences in the settlement price between the opening and closing trades.

“Let’s say I want to buy 100 shares in a company that cost €10 euro per share, that’s €10K. Those shares go up a euro, you make 10 per ent but you need the €10K to begin with. The CFD provider says you don’t have to put up all the money to buy 100 per cent of those shares, you put up a percentage and they will lend you the rest. If the share goes up by a euro, you’re making a euro per share but your outlay may have only been 5 per cent of the value of the shares in first place. Therefore your return is only a percentage. If it makes a loss, it’s going to amplify losses as well. They are treating 95 per cent as if it was a loan although there was no loan made, but they will still charge you interest on this,” he says.

“This example does ignore the effect of spreads when investors buy in. In other words you buy in at a higher price and sell at a lower price, rather like the foreign exchange desk in your high street bank.

“You are unlikely to be able to buy in/cash out at a single price. So the value of the underlying has to “cross the spread” before any gain accrues to the investor,” he says.

While day trading can be profitable for some, there are many disadvantages and Stewart reiterates: the stakes are far higher for those that do participate.