Day trading is a popular investment and trading strategy for many individuals in the UK.
While it may sound like a simple strategy, day trading can actually be highly complex. That’s why most professional traders have often spent many years perfecting their day trading strategy so that they’re able to generate the kind of returns they want.
But what exactly is day trading? How does it work, how do you get started, and, most crucially, could it be a useful strategy for you as a retail investor?
What is day trading?
As a concept, day trading is extremely simple to understand.
Day trading involves buying and selling financial instruments, such as stocks and shares, and then selling and closing positions on them in the same day for a profit.
So, as an example day trade, you might buy shares in a company at the start of the day for £5 each, and then sell them in the afternoon for £5.50.
While this may be a small return, day traders make many trades in a single day so that cumulatively, small but frequent profits add up.
Of course, while this is true when day traders pick winning trades, it also puts them at risk of losing money rapidly if the assets they’ve bought fall in value.
Typically, day traders will close all their positions before the markets close at the end of the day. Otherwise, they may be exposed to changes in values overnight.
How to become a day trader
There are four key stages to becoming a day trader that I will explain in full in this guide.
1. Choose a stockbroker
First, choose a stockbroker or trading platform where you’ll make your day trades and open an account that suits your needs.
You can find out more about some of the best day trading platforms in this guide.
2. Do your analysis
Next, do your technical analysis. Work out how you’re going to find reliable information and what metrics you intend to use to choose your investments.
This guide will show you some of the ways that you can find the information you need.
3. Set your trading strategy
After this analysis, you’ll need to work out a strategy that you’ll use throughout your day trading.
You can find some examples of strategies that day traders often use in this guide.
4. Choose your investments
Finally, you can choose your investments, from stocks and shares to exchange-traded funds.
This guide will highlight some of the asset classes you could consider for day trading.
The next stage in becoming a day trader is to do technical analysis and find reliable information for you to inform your day trade decisions.
This technical analysis is a crucial part of your day trading strategy as otherwise, you’d be making your decisions randomly.
There are a variety of considerations to make as part of this analysis.
Boost your stock market knowledge
Having knowledge of how financial markets work and where you can make money can be highly useful when day trading.
You need to understand the factors that can impact the market and a day trade, such as how a volatile market can be potentially lucrative but equally dangerous, or how trading volume can be indicative of a popular trade.
Stockbrokers and trading platforms often have dedicated “learn” sections that can be highly useful for novices to start learning about trading in detail. Even if you know a lot already, you can always learn more from the information on these pages.
Apps such as Finimize can also be useful tools for reading market insights and finding out information.
Day trading software
If you want to take your analysis to the next level, you could consider buying day trading software containing a range of technical indicators to further inform your investing.
There are a variety of trading software providers available, including brands such as eSignal, MarketGear, and MetaStock among many others.
Of course, purchasing day trading software will cost you money, putting a dent in your day trading margins.
Even so, the value you could derive from a more accurate analysis may make this worthwhile.
Day trading and risk
One key part of your analysis is to consider risk.
All investing involves risk and, as you might imagine, day trading means potentially taking on even more risk than other forms of investing might, as your positions are shorter. As a result, this puts you at risk of losing money rapidly.
Learn to manage the risk in your day trading. Be willing to sell when an investment has reached a certain amount of profit, even if you think it has room to grow further.
At the other end of the spectrum, don’t become attached to investments that fail. Part of being a successful day trader is to cut investments that don’t work out before the situation becomes even worse.
You may also want to consider diversifying investments in different asset classes, industries, sectors, and geographical locations.
That way, if you lose value on one trade because of a dip across an entire region or industry, you’re less likely to lose value on all your trades.
Popular day trading strategies
At this stage, it’s useful to start thinking about what kind of day trading strategy you’re going to go for.
There are a variety of day trading strategies that you might want to consider. Here are just five that could work for you.
1. Trend trading
Trend trading involves watching the direction (i.e., the trend) of an asset’s price over longer periods, and then buying or selling accordingly based on what’s happened in the past.
For example, if an asset looks like it’s rising in value, a trader might buy and then wait for the rise, before selling when it has. This is called a “long position”.
Meanwhile, if an asset’s trend is downwards, a trader might sell to avoid losing value. This is called a “short position”. They may then repurchase the asset later at a lower price, meaning they make a small margin.
Trend trading requires you to be on the ball with your investments, as the changes in value can happen quickly.
2. Swing trading
Swing trading is similar to trend trading, except that swing traders take a far shorter outlook on the movement of an asset.
Swing trading still involves taking a long or short position based on expected outcomes, the key difference being that they try to do this over shorter periods, targeting smaller market movements to do so.
Scalping is a short-term day trading strategy, with the theory being that aiming for many small wins creates large returns over time.
For example, a trader might buy and sell an investment five or six times in an hour, capitalising on small rises and falls in value in that time.
Naturally, this strategy exposes you to even greater risk, as unexpected changes in value would destroy any of the smaller wins that you had made throughout the time period.
It’s important to remember to close any positions before the market closes. Otherwise, overnight funding changes could entirely erode any profits you make while scalping.
4. Money flows
Money flows is a strategy that involves looking at both an asset’s price and, more importantly, trading volume (i.e., how many times it has been bought or sold) to determine whether it has been overbought or oversold.
Traders use analysis to compare the number of trades from one day to the next, using the data to decide whether an asset has been overbought or oversold.
If the asset appears to have been overbought, the trader will sell the asset before the inevitable drop-off.
Meanwhile, if the asset appears to have been undersold, this tells the trader that they should buy it before other investors do, and then sell when the price has risen again.
5. Mean reversion
You may have heard the phrase “time in the market, not timing the market” before. This idea comes from the fact that, over long periods, investments tend to move in an upward trajectory.
While this appears as peaks and troughs over time, you can draw a line straight through this to determine the “mean” growth.
A mean reversion strategy involves trying to capitalise on this theory by buying when the investment falls below the expected mean, and selling when it appears to have peaked.
The trouble with this strategy is that there’s no guarantee that a particular investment will perform as expected.
Sticking to the strategy
Crucially, many day traders will typically stick to their strategy, even if there are peaks and troughs in the performance.
Sticking to your strategy can be important, as trying to chop and change or emulate someone else’s could cost you more money in the long run.
Try to keep your emotions in check and stick to that researched plan you made. There’s a reason you did all that legwork, so it can be sensible to try and stay on the path and follow your own advice.
What kind of assets could you trade?
Once you’ve decided on a platform to use, you’ve done your technical analysis, and you have a strategy ready for your day trading, you can start looking at the kind of assets you might want to trade.
Day trading stocks and shares
Stocks and shares are probably the most commonly traded asset for day traders.
Stocks and shares are small portions of a company’s value that investors can purchase.
In general, there are two main ways that investors can typically derive value from stocks and shares: from changes in the value of the investment, or from dividends.
For day traders, it’s those changes in value that are most interesting, as this is where you can make money if you buy a stock at the start of the day and then sell it for a profit at the end.
However, while stocks tend to produce a return in the long term, they can also be one of the most volatile assets over shorter periods. Daily changes in value where day traders can make money also mean there’s a possibility of losing money, too.
That’s why it’s vital to research a stock or share before you buy.
Day trading funds
Funds allow you to pool your money alongside other investors in a basket of investments. You make money depending on how the underlying assets in the fund perform.
You’ll then pay a percentage-based fee for the fund, typically depending on whether it is actively or passively managed.
The difference here is that actively managed funds are overseen by a fund manager who makes investment decisions on your behalf. Meanwhile, passively managed funds tend to track a specific index, with no manager specifically overseeing the fund’s progress.
As a result, passively managed funds are generally cheaper than actively managed funds.
Arguably, the best way to day trade in funds would be to invest in exchange-traded funds.
Exchange-traded funds are bought and sold on the market, meaning you can buy and sell them throughout the day. This allows you to capitalise on short-term changes in value, often a core tenet of any day trading strategy.
In reality, funds are less likely to make profitable trades when day trading, as changes in value tend to be smaller and high percentage-based charges can severely hamper your returns.
Day trading bonds
Bonds are small loans that investors can buy and then receive an income on in the form of interest payments up to their maturity date.
Companies can issue corporate bonds, and governments can issue bonds that are also known as “gilts”.
Bonds tend to be a safer investment as it requires a company or government entirely crashing for you to lose the entire value. However, this can still happen and while they are considered to be a safer investment, returns on bonds are not guaranteed.
In terms of day trading, bonds can be sold on secondary markets before they mature. As a result, you may be able to sell a bond for more than you paid for it. Obviously, this would mean giving away the right to any income derived from interest payments.
Of course, while the bonds themselves are considered to be a safe investment, trading on secondary markets is less secure as it depends on you finding a buyer and also that they’ll be willing to pay more to you than you initially paid for the bond.
This also means that you could buy bonds on the secondary market and sell them again within a day for a small profit.
Day trading forex
“Forex” is an abbreviation of “foreign exchange”, the process of exchanging one currency for another.
Therefore, forex trading is simply buying foreign currencies for a certain price, waiting for the exchange rate to become more favourable, and then selling them again.
Arguably, forex is even more volatile than other investments because it’s linked to specific countries. As a result, social and political events can directly impact its performance.
For example, the pound sterling took a hit when the Brexit vote was announced, as there was concern over how Britain would perform economically afterwards.
Investment platforms also tend to charge higher fees for forex trading, in part because they tend to charge you for the costs in the exchange rate.
Make sure you know how much you’ll have to pay before you invest or start using a forex broker.
Day trading CFDs
A CFD, standing for “contract for differences”, involves buying an asset from a seller with a contract that says the buyer will pay the difference in settlement price between open and closing trades.
Day traders can make money from CFDs by buying when they expect an upward movement, or by selling when they expect a downward movement.
These are particularly popular for buying foreign currencies and commodities as it means traders don’t have to actually buy the investment.
It’s important to note that the majority of people investing via retail investor accounts lose money when trading CFDs. That’s why CFDs are illegal in the US.
And, although legal in the UK, stockbrokers are required to inform investors on their websites that often, more than 60% of retail investors will lose money trading CFDs.
If you really are intent on trading CFDs, make sure you do your research and take as much advice as possible first.
How much do day traders make?
Working out how much a day trader earns is essentially like asking “how long is a piece of string?”
Realistically, the amount a day trader can make depends on how successful they are with their trades, and how determined they are to continue.
According to job site Glassdoor, the highest salary for a full-time professional day trader in the UK is £116,103, while the lowest is around £21,539. However, these figures are not necessarily accurate for retail investors looking to day trade.
Of course, this presumes that you make any money from your day trading, as there is a possibility that you may end up losing money rather than making any at all.
How much do you need to get started in day trading?
There is no threshold for how much you need to start day trading, other than using an amount that makes it worthwhile to make your trades when you include account fees and commission.
Obviously, the more you invest gives you the opportunity for greater returns. However, this also means bigger losses if your investments don’t work out.
Capital Gains Tax
One issue you may want to bear in mind when day trading is that you may have to pay Capital Gains Tax (CGT) on your earnings, depending on how much you earn from your day trading.
CGT is applied to any gain in the value of assets, including stocks and shares. In the 2021/22 tax year, the CGT rates are 10% for basic-rate taxpayers, and 20% for higher- and additional-rate taxpayers. There’s also an additional 8% if you’re selling property.
Each tax year, you do have a tax-free allowance known as the “annual exempt amount” where no CGT is due. As of the 2021/22 tax year, the CGT annual exempt amount is £12,300. However, if you derive more profit from your day trading than this amount, it will be subject to CGT.
So for example, imagine you make £15,000 profit from day trading in a single tax year. That means your profits would exceed the annual exempt amount by £2,700.
Therefore, if you pay basic-rate Income Tax, you’d owe £270 CGT, or £540 if you pay higher- or additional-rate Income Tax.
These amounts may be relatively small compared to your overall profits. Even so, CGT is still a consideration for day traders, particularly if your profits are considerably larger.
You can entirely avoid CGT by making your day trade investments through a Stocks and Shares ISA. However, bear in mind that it may cost you more in account fees to hold an ISA with an investment platform or provider, depending on which platform you invest with.
Is day trading right for you?
Overall, day trading is a potentially lucrative way to make a profit from financial markets, provided that you do your research and know the risks that you’re taking on. However, it can also be a risky one, with the potential for you to lose money.
Taking financial advice
Whenever you’re pursuing a new investment strategy, it can often be sensible to speak to a professional financial advisor.
A financial advisor can offer personalised and impartial advice on whether day trading is right for you, and how much money you can afford to invest. They may also have access to risk management tools that can potentially help you make more informed investment decisions.