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I’m a professional day trader, and in past articles, I’ve mostly written about the principles that can keep you out of all kinds of trouble when trading.
Today’s column is different. I will get a little more technical because I need to explain the shift that’s happening in the day trading world. It’s a shift that is also an opportunity.
When I refer to “ankle biters,” I mean that day trading has historically been a small slice of the total stock market. The profession was not regarded by mainstream media as even a profession. Instead, the avatar was of some Red Bull-fueled kid, surfing social media with one hand and placing trades on GameStop with the other. That sells us professionals short, but it was easier to be dismissive of day traders back then.
No longer. Now, day traders at just three brokers represent almost 25% of the entire U.S. stock market. The day-trading share of the stock market is actually substantially larger than 25%, given the scores of other brokers out there.
It was only about ten years ago that the stock-market darling was HFTs or High-Frequency Traders. They were more than 60% of the market then and the subject of books like Michael Lewis’s Flash Boys. They’ve now dropped to about half the market, and day trading is the up-and-comer.
Don’t get me wrong — the last thing I advocate is to try to beat the HFT crowd at their own game. They still have about half the market, basically unlimited money to hire the brightest, and they measure the amount of their computing power in acres of servers.
So, no, the plan is not to beat them at their own game. Fortunately, we don’t have to. We can continue to grow by trading stocks they have no interest or capability to trade. First, let’s look at what they do like.
Related: I Lost So Much Money Making These Day Trading Mistakes
Stocks that HFTs like to trade
1. They look for stocks that — at any given moment — trade in a relatively tight price range (i.e., the bid and ask “spread” is small). With the tremendous volumes these HFTs trade, they’re comfortable making what look like small profits on any transaction because, as the saying goes, they can make it up on volume.
2. Next, just as HFTs like tight price ranges, they also like low volatility, with that tight range not moving up or down much in price. If HFTs were manufacturers, they’d be the ones building a nice, predictable supply chain.
3. The third kind of stock HFTs love is another acronym: ETFs or Exchange-Traded Funds. These are baskets of stocks or other investments and many of them combine the two factors I mentioned above: They trade in narrow spreads and with relatively stable prices.
4. High-priced stocks are the fourth preferred characteristic of HFTs, because they allow for more potential profit.
5. Finally, HFTs prefer well-established stocks with lots of outstanding shares. They like trading in high volumes but prefer that the magnitude of those volumes doesn’t change much. Again, a predictable supply chain.
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Stocks that I like to trade
I don’t agree with the old saying: “If you can’t beat ’em, join ’em.” I don’t have the spare billion or so to build my own HFT platform. Therefore, my saying is: “If you can’t beat ’em, do the opposite.”
I want to be the ankle biter. I want to put my money under the radar of the HFT folks. That means looking at the HFT stock criteria I listed above but with radically different preferences.
1. I focus on stocks that are relatively inexpensive. My sweet spot is stocks that trade for $2-20, preferably in the $3-5 range. That’s far from the highest-profile stocks like Tesla, Apple and Nvidia that trade for hundreds of dollars per share.
2. I want to trade stocks that are in the news. It might be a biotech stock with news about a drug that the FDA cleared today or news about a merger. These things serve as a catalyst that makes other day traders sit up and focus on the stock.
3. I look for the opposite of predictably trading stocks: I want ones that are up at least 50% today relative to yesterday’s price. Why? This sort of action is a gigantic dog whistle for all retail traders worldwide. The stock will be highlighted on millions of computer displays at this very moment. It’s not uncommon for these super-active stocks to trade at 300%, 500%, or 700% of where they were just yesterday. HFTs hate that sort of stock, and it makes me smile.
4. I love it when stocks trade at 500% or more of their 50-day average. It’s one more beacon for other traders to focus on this stock.
5. I like the number of shares available to trade (the “float”) to be under 10 million. That means any big interest in the stock will send it soaring.
All these criteria sound like a lot of work, right? Fortunately, we live in a world where stock scanners can now monitor all these criteria in real-time. You don’t have to hit the books and do research. In fact, any analyst research is useless to day traders because it was written in the past. I focus on what is happening right now.
Once I have a stock in my sights that meets my criteria, I’m halfway home: I am not competing against the HFT computers; I’m competing against other traders with all their fears, biases and emotions in play. Now, I just have to be more disciplined and knowledgeable than most of them in order for me to have a good day.
If you’re also an ankle-biter, the fact that retail trading is grabbing market share from computerized trading should be music to your ears. There’s money to be made in volatile, emotional markets.
