Tackling the Challenge of Daytrading

If I were starting a business, I would not seek a field in which opportunity is shrinking and one where competition is increasing.  With regularity, however, I see new traders pursue daytrading in the most crowded instruments, especially the S&P 500 Index. 

Let's look at a few stats:

*  Since 2010, the average volume in SPY has been almost 172 million shares.  Since 2012, that average volume has dropped by more than 25% to 122 million shares. 

*  Less volume means more domination of electronic market makers and less participation by directional speculators.  Since 2010, the average daily range in SPY has been almost 1.15%.  Since 2012, the average daily range has dropped by more than 25% to .83%.

*  With recent crises in Europe and Asia, an increasing proportion of market moves are occurring outside of U.S. hours.  Since 2010, SPY has gained over 72 points.  Only 39 of those were made during U.S. hours; the rest occurred during the overnight hours.  Those limited to the day time frame missed out on nearly half of all directional opportunity.

The point of this post is not that you shouldn't be a daytrader.  Rather, the point is that, if you're going to be a daytrader, you have to approach markets very differently from the herd.  You either need to be in non-crowded instruments that possess unique directional opportunities or you need to approach crowded markets in unique ways that find profitable opportunities in the reactions and overreactions of the herd.

Suppose you took a look at every NYSE stock trading on Friday and whether it was making a new high price or a new low price just for that day's session.  If you plotted the new highs minus the new lows at every minute of the trading day, the chart above is what you would have seen.  You would have noticed that, once we got past the first half hour of trade, the new highs dominated the new lows.  You would have also seen that, past that first half hour, the majority of stocks consistently traded above their day's volume weighted average prices.

But if you were trading off the charts that everyone else looks at, you quite likely wouldn't have seen the underlying strength across shares.  That would have made it difficult to identify the likely trend day early in the session.

Daytrading indeed has become more challenging.  It is hard to imagine achieving unique results without a distinct informational edge.  All the coaching, discipline, and psychological insight in the world won't help a person trade the market if they don't see the market.  Upcoming posts will focus on some tools for seeing the market better.

Keys to Daytrading Success and Why So Few Get There