Learning day trading strategies is a crucial part of day trading risk management and becoming a profitable day trader.
Not every strategy is created equal, however, and some may not be right for you. The best thing to do is to test different day trading strategies until you find the ones that work for you personally.
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A day trading strategy is simply a plan for direction and action when trading stocks. A successful day trading strategy is exactly what consistent and profitable day traders look for.
When learning to day trade, of course, you want to be prepared and ready to know how to make a successful trade. It makes life a lot easier when you have rules to follow, and things to look for that can signal it is time to trade.
Before we look at some great day trading strategies, there are a few things you need to make sure you know first.
The ability to successfully identify the supports and resistances of a stock price is a major key in many trading strategies.
Support is a low price, level, or area that a stock hits over a certain period of time.
Resistance is a high price, level, or area that a stock hits over a certain period of time.
To fully grasp the importance of supports and resistance, you have to think about what is actually happening in the minds of traders. The more the price keeps confirming support or resistance, the stronger it is. The stronger they are, the more traders start to notice these areas and use them to enter or exit trades. There are traders waiting to enter the trades as it comes to these areas because they know there will be action in these areas.
There are two basic types of ways to establish support or resistance. This can be done with either a horizontal or diagonal line on a chart.
This a real example of a horizontal support line. Stock Ticker: NFLX (Netflix Inc).
This is a real example of a horizontal resistance line. Stock Ticker: AMD (Advanced Micro Devices).
Diagonal Resistance and Support Lines
This is a real example of diagonal support and resistance lines. Stock Ticker: AAPL (Apple Inc.)
These diagonal lines can also be considered trend lines.
One of the best books that I would recommend to all traders is The Art and Science of Technical Analysis: Market Structure, Price Action, and Trading Strategies by Adam Grimes. It has a 4.7 out of 5 on Amazon and I have heard it referred to as the best book ever written on technical analysis. If you're ready to really start taking trading seriously, this book will be an invaluable addition to your studies.
Momentum trading is entering a trade when a stock begins to make a big move and then exiting when it loses its' momentum.
This is probably the most exciting of the day trading strategies, especially for those beginners learning how to start day trading. The reason is that the goal of this strategy is to make a profit fast from quick-moving prices. When one stock has seemed to lose its volatility, the momentum trader moves on to the next.
The good news is that there are stocks that make pretty big moves every day, you just have to find them.
Traders use stock scanners and other charting tools to find stocks that show a sign of gaining momentum. The basic goal is to find stocks with high volume and volatility on a lower time frame.
Volume: The number of times a stock is bought and sold in a certain time period.
Volatility: This is how much the stock price actually moves. Volume is usually the main cause of volatility.
Low Time Frame: When studying a chart for a specific stock, you have the option to look at the chart on different time frames. Usually day traders use the 5 min or 1 min charts for momentum trading, but not always. This means every candle you see, for example on a 5 min chart, represents 5 minutes.
An example of signs showing stock price momentum. Stock Ticker: PHAS (Phasebio Pharmaceuticals Inc.)
Obviously, traders love to catch these big momentum trades for huge profit. This momentum strategy is number one because the rest of the strategies we cover are basically just ways to find and trade smaller bursts of momentum.
Breakout Definition: A breakout happens a stock price breaks out or passes an established price level, resistance, or area of support. A breakout that goes up is often referred to as an upside breakout. When a breakout goes down it is called a downside breakout.
This is a real example of a downside breakout. Stock Ticker: GPRO (GoPro Inc.)
A bull flag is just a candle formation on a chart that appears to form a pole with a flag on it. This is a very popular signal that many traders recognize and trade. It can be considered its own strategy or part of a pull back or a breakout strategy.
The formed picture of a flag really means nothing at all, its the what it reveals is happening in the market that is important. The pole is formed from upward momentum price move, while the flag is the result of consolidation or a pullback.
The straighter the pole goes up, the stronger the momentum is. Then the price only retraces far enough to form a flag often means that it is just a brief rest before continuation in the trend upward.
Real example of bull flag pattern. Stock Ticker: VFF (Village Farms International)
A reversal in trading is when a price of a stock switches directions completely. The main goal of reversal trading is to identify when a price is going to completely change direction, and take advantage of it.
While it has a lot in common with the pull back strategy, it is different. The pull back can be looked at as a rest in the trend, or a failed reversal.
To trade reversals, you must first be able to identify which way a stock price is going currently. Once you figure out the current trend or direction of a stock, then you use can use tools to find out when a stock price might reverse.
To figure out a direction or trend in a stock, you can use trend lines. A trend line is basically a diagonal support or resistance line.
A downtrend is when a stock price starts to hit lower lows and lower highs. In an uptrend a stock price starts to hit higher highs, and higher lows.
Real example of the reversal trading pattern. Stock Ticker: GM (General Motors)Reversal Trading Tips
A pullback is basically a mini reversal. Traders using this strategy mainly look for a brief rest in a big move, believing that it will eventually pull back for at least a short period of time.
This strategy is used when you are predicting the trend is going to continue. The reason for waiting for a pullback is for a better entry price. Entering during a pull back reduces risks if you are wrong, and puts you a better position if you are right.
This a real example of pull back trading pattern. Stock Ticker: TSLA (Tesla Inc.)
The hard part is knowing exactly when the stock is done pulling back. A trader's nightmare is to buy a stock, and then watch as it keeps pulling back into a full reversal. A pullback can be any number of candles, traders just use supports and resistances to help find trade entries and exits.
With pullbacks, just like when you are trading reversals, the trend is your friend. Even though day trading is primarily focused on low time frames, it can help to look at other time frames as well. Look for the overall trend in multiple time frames, and then look for major supports and resistances.
There are many day trading strategies that get created or altered each day. It is hard to say which strategy is the best, or if there even is a best strategy. You have to find what works for you and what fits your trading style.
The best way to test strategies is to practice analyzing and using them while paper trading, or trading with small amounts of capital.
Another great way to experiment with strategies is to backtest them.
Backtesting is studying and applying strategies to old chart data, not a live market. Backtesting is similar to paper trading, except you can pause or slow the data because it is not happening live. This is a great way to practice trading when the market is closed, or when you feel like going at a slower pace.
Step 1: Find a stock chart you want to test and make sure it is on your desired time frame.
Step 2: You can manually backtest on any chart by scrolling back on any chart to old data. Simply click and drag or scroll to a chosen point in time.
Step 3: When you are ready you just slowly drag the chart until the future candles appear one by one. You watch for setups and can stop to draw lines if needed.
Step 4: Test strategies by identifying possible setups and trying to predict what will happen next.