Day trading basics

E*TRADE Securities2

10/13/17

The world of day trading can be exciting. Day traders are unlike many other investors because they only hold their securities—as you would expect from the name—for a day.

 

Day trading overview


FINRA rules describe a day trade as the opening and closing of the same security (any security, including options) on the same day in a brokerage account.


Determining a day trade

Example 1 Example 2 Example 3

Trade 1—Jan 7—Buy to open (BTO) 10 QQQ Jan 70 calls

 

Trade 2—Jan 7—Sell to close (STC) 10 QQQ Jan 70 calls

 

Trade 1—Jan 7—BTO 50 XYZ

 

Jan 8—Customer starts the day with a long position of 50 shares of XYZ

 

Trade 2—Jan 8—STC 50 XYZ

 

Trade 3—Jan 8—BTO 50 XYZ

Trade 1—Jan 7—BTO 50 XYZ

 

Jan 8—Customer starts the day with a long position of 50 shares of XYZ

 

Trade 2—Jan 8—BTO 25 more XYZ, making the customer long 75 shares

 

Trade 3—Jan 8—STC 25 XYZ

Making these trades on the same day would constitute a day trade.                                                                                                                                                                                                                  This would not be a day trade. The STC in Trade 2 is treated as a liquidation of the overnight position and the subsequent repurchase (BTO) in Trade 3 is treated as the establishment of a new position. The day trade here is the BTO of 25 in Trade 2 and the STC of 25 shares in Trade 3. First-in-first-out (FIFO) is not used in day trading calculations. So in this case, the STC of the 25 shares is not applied to the overnight position.

Hypothetical example, for illustrative purposes only.

 

Pattern day trader accounts

 

Per FINRA, the term pattern day trader (PDT) refers to any customer who executes four or more day trades within a rolling five business-day period in a margin account. Keep in mind a broker-dealer may also designate a customer as a pattern day trader if it knows or has a reasonable basis to believe the customer will engage in pattern day trading. Once an account is designated a PDT account, it remains a PDT account until it is reset by the broker-dealer.

In regards to margin requirements, the minimum equity required for the accounts of customers deemed to be pattern day traders is $25,000. This minimum equity must be deposited in the margin account before the customer may open trades and must be maintained in the customer’s account at all times.

If a PDT account’s value closes below the $25,000 requirement, the customer will be issued a day trading minimum equity margin call the next business day, and the account will be moved to restricted status until the account value is brought above $25,000.

 

How are day trades counted?

 

Day trades are measured by the customer’s intent when placing trades. For example, a purchase of 10 contracts placed in a single order and subsequently closed in several sequential transactions, will constitute one day trade.

The same holds true for spreads, which are executed all at once. A credit spread entered and executed as a spread and closed exactly as it was opened will count as one day trade. This is true for all recognized spreads, such as butterflies, condors, etc.

However, a spread entered and executed as a spread, where the legs are closed separately, will count as multiple day trades.

 

Example 1:

Trade 1 (10 a.m.)—BTO 10 XYZ Oct 50 puts/STO 10 XYZ Oct 55 puts (credit put spread)

Trade 2 (12 p.m.)—BTC 10 XYZ Oct 55 puts

Trade 3 (1 p.m.)—STC 10 XYZ Oct 50 puts

This would be two separate day trades.

Note that modified orders (e.g., price, quantity) are considered a new and separate trade for day trade counting purposes.

Making several opening transactions and then closing them with one transaction does not constitute one day trade. Remember, it has to do with the customer’s intent. In the following example, the customer clearly intends to execute multiple trades, so they are counted as multiple day trades. Each buy is a separately placed order and therefore, the STC is not considered one single trade but rather qualifies as three distinct closing trades.

 

Example 2:

Trade 1 (9:30 a.m.)—BTO 5 XYZ Jan 60 calls

Trade 2 (10 a.m.)—BTO 3 XYZ Jan 60 calls

Trade 3 (10:30 a.m.)—BTO 2 XYZ Jan 60 calls

Trade 4 (11:15 a.m.)—STC 10 XYZ Jan 60 calls

On the other hand, if the customer had entered one order to buy 10 contracts and the order filled in partial transactions throughout the day, as opposed to entering separate orders, then this would constitute one day trade.

Are you ready to start day trading or want to do more trading? Let E*TRADE help. Open a Margin Account, or visit the Education Center to learn more.