»● Day Trading Terms

NASDAQ Level II

NASDAQ Level II provides a list of all buyers and sellers for a given stock. Buyers (Bid's) are arranged by price from the highest to the lowest price (best to worst) and sellers (Ask's) are arranged from lowest to highest price (best to worst). NASDAQ Level II allows a stock day trader to determine the depth (size) of the market and thus, better control in executing his order. In order to use a level II system correctly, a trader must understand how each participating system and market maker in the level II screen operates. Without this knowledge, it will be difficult for a trader to know which participant to send the order to for the best execution. Although not simple to use, a direct access trading system that incorporates NASDAQ Level II is essential for day trading or actively trading stocks.

Paper Trading

Paper trading is of utmost importance while someone is learning how to day trade. Paper trading is the placing of make-believe trades over a period of time before actual money is used. Paper trading should give a potential day trader an idea of his ability to day trade correctly. While paper trading, a trader should first try to become very familiar with the trading software he is using rather than with making or losing money. After he knows the software system well, a day trader should continue his trading simulation in an attempt to improve his trading skills. The way to make paper trading the most rewarding is by using a day trading simulator that imitates real market conditions as much as possible with real live market prices. Even though, paper trading has usually been done with stocks or futures, in the last few years various realistic and high quality currency trading demo systems have hit the market. The day trader should approach paper trading as if the money in the account is real and, for that reason, should not trade taking more risk than he normally would in real life.

Short-term Trading

Short-term trading, also known as "swing trading," involves the opening and closing of a financial position (stocks, futures, currencies, options, etc.) throughout a period of time that can last a day or more. This is different than day trading where a position is closed before the day is over. Short-term traders usually hold a positing for a few days, but it is not uncommon for trades to last a few weeks or months. Short-term trading strategies and day trading strategies can be similar, but the allowance for losses and profits targets of a short-term trading system are larger. Even though short-term trading can be done with stocks, the fact that the stock market is not opened 24 hours a day increases the risk of experiencing an uncontrolled loss during inaccessible market hours. Forex trading, on the other hand, does not have this problem because the currency market is a 24-hour market, opened from Sunday afternoon to Friday afternoon (Eastern time). This provides the trader with a greater flexibility in designing and implementing a trading strategy.

Stop Loss

A stop loss is the short name given to a stop loss order (covered in section 3 of "Steps to start day trading) that is used to limit the potential loss in a trader's existing position (in a stock, currency, future, etc.). Using stop losses while trading is ESSENTIAL. It is the only way that a day trader can limit his losses in the market and avoid potentially catastrophic losses. Since no trader is infallible, a stop loss acts like an insurance policy when the UNEXPECTED occurs. Even though some traders claim to trade using "mental" stop losses or "mental stops", it is important that beginning traders get used to placing a physical stop loss order every time a new position is initiated. This will help day traders develop the discipline they need to succeed in day trading by desensitizing them to the "pain" of taking a loss. "Where should a stop loss be placed?" is a commonly asked question in day trading, and its answer depends on the type of trading strategy used and the volatility of the market being traded.

Support and Resistance

Support and resistance are probably the most important ingredients in technical analysis. Support is a price level at which a financial instrument (stock, bond, currency, future, etc.) will likely stop falling and resistance is a level at which the price will likely stop rising. Support and resistance are not exact. More than specific prices on a chart, support and resistance can be considered price bands or ranges where the price will probably stop falling or rising respectively. Nevertheless, due to their widespread use throughout the history of all financial markets, support and resistance frequently work. As a result, many day traders use support and resistance exclusively to trade. Support and resistance levels can apply to a short period of time in a chart (like days) or to a much longer time frame (months, or years). As a result, not all support or resistance levels are as strong and a day trader must take this into consideration when trading near support or resistance areas.

Technical Analysis

Technical analysis is the study the past price behavior of a financial instrument in an attempt to determine what the future behavior might be. Technical analysis involves the use of (mathematical) indicators and interpretation of price patterns on charts. In day trading, technical analysis is of utmost importance. Day traders do not care about fundamental factors that can affect the price of what they are trading. They simply react to price changes on their charts based on their technical analysis studies. The principles of technical analysis apply to long-term as well as short-term charts. A good day trading platform to trader currencies, stocks, or futures should have technical analysis built in.