Smart Trading by Timing the Market
In momentum trading, traders focus on stocks that are moving significantly in one direction on high volume. Momentum traders may hold their positions for a few minutes, a couple of hours or even the entire length of the trading day, depending on how quickly the stock moves and when it changes direction. Here we take a look at momentum trading, and examine a typical day in the life of this type of active trader.
Momentum Trading
Momentum trading is a short-term trading strategy that looks to profit from high-volume moves in a certain stock’s price. These traders look for breakout points in a stock price and then follow them with their trades either on the up or down side, looking to accrue profits from mass movements in stock price. Most momentum traders close out of their positions by the end of the day, as they make extensive use of margin to finance their gains.
Substantial Gains
Getting in and out of the trade before the saturation point arrives is a significant challenge. The saturation point is the point at which buy or sell orders start to outnumber those on the opposite side of the trade significantly. Naturally, this point can be difficult to predict, and it’s somewhere between luck and art for a trader to consistently avoid being caught in a saturated price movement. Conservatism helps momentum traders to avoid this more often. It helps to have a ballpark acceptable gains and allowable losses target for every trade to prevent emotional reasoning from interfering with trading efficiency.
Timing the Market
One of the potential problems with this strategy is that you have to be able to successfully time the market in order to make it work. If you think that a stock is about to move up and you purchase shares, it could potentially move right back down again. Many investors have discovered how difficult it is to try to time the market. This strategy is essentially all timing. Another problem with this strategy is that you will have to base your timing on regular information. Many times, institutional investors on Wall Street have access to information that you may not have. Because of this, they might get out right after you get into the trade. This could make the trend stop and you would be left in a losing position.
Transaction Costs
With this type of strategy, you will most likely be trading frequently. Because of this, you have to now take into consideration the impact of transaction costs on your trading. If you were previously engaged in buy and hold investing, you may not have paid much attention to the transaction costs of your actions. However, if you are getting into and out of trades quickly in order to capitalize on the trend, you will be trading much more frequently. This means that you need to consider working with a discount broker in order to lower your transaction costs and increase your profitability.
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