Day trading strategies are effective in helping traders exploit increased market volatility, but at the same time, having such a short-term approach could result in lower trading accuracy. No matter the strategy, a lot of false signals will be generated on a day-to-day basis and finding methods to filter them is one of the greatest challenges. Luckily, though, there are a lot of effective tools for day trading and we will talk about the three most important categories.
#1 Tools for market sentiment analysis
Understanding the market sentiment and how it fluctuates during the day represents one of the key tasks day traders must handle. In terms of tools that can help achieve that, possibilities are diverse. More often than not, traders will use technical indicators like MACD or RSI, to figure out the dominant market direction and trade with it.
At the same time, professionals use naked charts and price action principles to understand what happens behind the charts. By doing that, they can understand how institutional investors are placing trades. Big candles or consecutive candles with a directional bias are indicative of an impulsive move. Mixed price action developments communicate the order flow is balanced and a corrective move is in play.
A combination of both technical indicators and price action could serve as a more efficient method in understanding the market sentiment. It’s up to each trader to find a methodology that makes sense, proves to be effective in different market conditions, and fits his/her daily schedule.
#2 Risk management tools
Risk management is part of the day trading regime and traders must ensure that rules are being respected at any point in time. Aside from the traditional stop loss, take profit, risk per trade, and risk of ruin, additional tools are welcomed. easyMarkets, a regulated broker, is an example of a company providing traders a series of extra tools aimed at helping control risk. A prime example is deal Cancellation, a unique proprietary tool that, when activated before a trade, allows you to undo losing trades within 1, 3 or 6 hours in exchange for a small fee.
Without a proper risk management strategy in play, day trading could turn out to be a simple gamble, given the high market uncertainty. Especially now in 2020, stricter risk parameters should be set, to limit the potential downside in each trading opportunity.
#3 Tools for anticipating oversold/overbought conditions
The market can’t move on a straight line, not even on an intraday basis, and because of that, traders need tools that spot oversold or overbought conditions. Oscillators like Stochastic or the Relative Strength Index (RSI) are extremely popular, but as with other indicators, there are certain limitations. At the same time, since we talk about trading in the short-term, oscillators can remain oversold or overbought for an extended period.
As a result, understanding the market sentiment and trading in the dominant market direction is key to not get trapped with a counter-trend trade. The price actions could be indicative of the market condition (oversold/overbought), as well, and could serve as an additional tool to understand the broader context.
To be an effective day trader, one should be able to create a proper mix of different tools that combine sentiment analysis, risk management, and indicators to spot potential turning points in the market. Failing to do that will result in inconsistency, large drawdowns and a lower probability of generating returns in the long run.