What are the risks of day trading?
Back in the day, you couldn't trade in the stock market, or pretty much any other market, unless you worked for one of the major financial institutions or brokerages. However, the internet changed things, and online trading is now available to everyone, including retail investors and traders, which are basically just regular people who wish to try their own luck.
That expression actually shouldn't be applied to trading, as trading has little to do with luck. It is based on knowledge, skill, technical and fundamental indicators, psychology, and alike. It is not gambling as some might have you believe.
But, despite this fact, it still comes with a lot of risks — especially when it comes to day trading. Long-term investments are often much safer, provided that you invested in a safe company, as their stock price is likely to grow over time.
Day trading — while it has the potential to be a very lucrative career — comes with a lot more risk, as it deals with the prices in shorter intervals, accompanied by significant volatility.
If you are interested in becoming a day trader, here are some of the risks that you should be aware of, as any of them can be a major pitfall for those who are not careful.
The hidden dangers, mistakes, and risks of day trading
1) Growing volatility
The first thing that new day traders should be aware of is increasing volatility. Now, don't get us wrong — volatility can be very useful. In fact, its existence is the very reason why day traders can afford to do what they do.
If the asset is volatile, that means that its price is going up and down, and if you exploit it correctly, you get to earn money out of the price difference. However, if you get it wrong, you will lose your money. This is a big danger for day traders, who come into the market with their money, but without understanding the fast pace of the volatility.
The possibility of earning money often makes people blind to the risks until it is too late. The bad news is that the changes in volatility are growing. This is not a new issue — volatility has grown to become much more violent and unpredictable as more people started joining the markets.
Since the prices are controlled by supply and demand, more people means more positions, which leads to greater changes of the price, and heightened risk of making a bad move and not being able to correct it in time.
2) Huge time commitment
This is not really a risk, but rather a downside of day trading — one that a lot of people are not familiar with before entering the market. You see, if you invest money into stocks long-term, you can just buy some shares and forget about them for years.
On the other hand, if you day trade, you have to spend pretty much the entire day following price performance, technical indicators, and even fundamental indicators. You need to read the news, follow the balance of supply and demand, look at other people's positions and compare them to yours, and a lot more.
All of this requires time, and you cannot dedicate your attention to anything else, as an opportunity might pass you by, or you might lose money in a sudden price turn.
In other words, if you day trade, then you enter and exit a position in a single day, and that makes it much more important to make a good trade quickly and make profits, instead of seeing losses. In the end, you won't be able to day trade as a hobby. It is a full-time commitment, and if you are not ready to treat it that way — you will likely lose.
Of course, you could try out trading bots. But even then, you need to keep an eye on the market yourself, as bots only ever do what you instruct them to do. So, if the market conditions change, so must your instructions for the bots. You might buy a little time for yourself if you start using bots, but chances are that you will need to spend even more time — at least initially — until you can figure out how to use them properly.
3) You will need to use more money for trading
Day trading, like every other way investment or trading method, requires a good strategy. However, you cannot know whether or not your strategy works for you right away. Instead, you will have to test it over a certain period of time, such as one month, or at least several weeks.
Basically, you will have to enter the market and start trading. Some days, you will only see losses. Others — you will experience gains. There will be days when you see a mix of the two. Now, contrary to the popular belief — you are not a bad trader if you see losses throughout the day, or even several days in a row.
That's just how it is sometimes, and if you make up for them through large gains a few days later, your losses will be nullified, and you will still be in the profit zone. However, during those days, when the market is just too unpredictable and wild to escape losses, you will likely have to keep returning and trying again and again.
That means that you will keep losing money, and you will need more money to enter your next position. In other words, you will need greater capital requirements, as your gains and losses will come one after another quite rapidly.
So, while you CAN enter the markets with only a few hundreds of dollars, in order to keep trading, you will likely need several thousand. Just so that a single mistake doesn't leave you penniless right from the start.
4) You could still lose everything
While we did say that gains and losses tend to come one after another, your strategy is crucial to ensure that you see more gains than losses. If this doesn't happen, then you will be gradually losing money. For example, let's say that you enter with $100, lose $20 in your first trade, and then win the next two trades where you only earn $5 per each trade. You are still $10 short from the amount you had when you entered.
If you repeat the process and once again lose $20 and win $5 two times, that's $20 less than you had when you entered, despite the fact that you won four times and lost only twice.
Day trading is not gambling, but it can work in a very similar way until you figure out which strategy works for you, and that takes time, as well as a trial and error approach, which can be quite costly.
5) Hot tips and expert advice might be wrong
A lot of people enter the market after listening to advice from known experts. These experts have spent years, if not decades trading. Surely they know what they are talking about, right?
Of course, but that doesn't mean that you should take their advice as a guarantee. Their advice is just that — advice. The reason why these people have earned a fortune through trading is that they can adapt to the changing market. That means adapting their strategy, mind, approach, and everything else.
You must remember that you cannot control the market, or will it to behave in the way you need it to behave, in any way. That means that you need to change yourself in order to follow it. Know when to cut your losses and start over, and don't stubbornly stick to one approach if it is obviously not working.
Of course, the same advice should also be applied to all those hot tips and tricks websites, which promise to notify users of new trends in the markets, and recommend the course of action. Do not believe them, especially if they are offering claims of easy profits. remember that things that sound too good to be true — usually are.
6) Lack of risk management
Another common mistake when it comes to new day traders is that they do not use risk management tools. Whether they don't know about them, they don't understand them, or don't use them adequately — not using risk management tools is a sure way to quickly lose every penny you bring to the market.
These tools exist for a reason, and even the greatest experts do not open a position without them. So, in order to be safe, make sure that you educate yourself on what things like stop-loss are, how they work, what they do, and alike.
7) Bad tech
Trading and reacting to the market is key to day trading, and that means that you need to use the technology that would allow you to react quickly. You cannot use an old computer that takes entire seconds to complete an action, or one that tends to crash all the time.
You also need a stable internet connection from a capable and competent provider. Not to mention that you need to ensure that you have a backup plan for when your power goes out.
These things happen, and while they might not happen all the time, they could severely damage you if they happen at a certain moment during your trade. So, make sure that you have all possibilities covered, and that you have a plan of action in case some of these things happen to you as you trade.
8) Your broker
Lastly, we would like to talk to you about choosing a broker. You see, your broker is likely one of the biggest aspects in the trading game, and definitely the biggest trades that you will make.
Your broker is who will hold all of your capital, and you should never trust someone or something with your money without previously learning everything you can dig up about them. While it sounds perfectly logical, it is quite astounding how many people don't even bother to research the broker. This is why scammers tend to thrive, and why people lose money when bad brokers go out of business.
Scammers are particularly problematic, and they can appear anywhere at any time. However, a bit of research can usually reveal them. If the broker is not licensed and registered, it is either unsafe or a pure scam.
A more difficult issue to resolve is slow quotes. Slow quotes are an issue because, in day trading — every second counts. When you submit an order to your broker, you need it sent to the exchange immediately.
Brokers who are slow with processing the order and sending it to an exchange could end up costing you a lot of money. In other words, test your broker's software before you start trading, and read up on other traders' experiences, as a bad broker means that all of your other efforts to make a profit will be a waste of time and money.
Our Rockfort Markets is particularly focused on speed, as we know how important it is for our clients to have timely service. So, if you struggle to find a broker that will help you make the most out of the current market situation, try out Rockfort Markets' software and other day trading features, and we guarantee that our technology will not hold you back from reaching your full potential as a trader.
Day trading holds a lot of promise, and it can be an excellent way to earn a lot of money very quickly. However, it is also very risky, and you can just as easily lose everything.
What will happen depends mostly on you, but also on your broker. With a bit of research, you can easily find a competent broker that will complement your strategy, but to do that, you also need to educate yourself, and know everything there is about day trading, the market, current trends, signals, and everything else we mentioned above. Keep these risks in mind and do your best to avoid the mentioned issues, or at least be prepared for them, and you will be one step closer to becoming a professional day trader.