Picking the Best Stocks for Day Trading

Day trading, as opposed to a buy-and-hold strategy, is the art of getting in and out of a stock quickly. This means it’s important to find opportunities: specifically, the biggest price movements that will happen the most quickly.

The first thing every aggressive trader needs to understand is that the ticker symbols that should be on their radars change all the time. An opportunity to buy a soon-to-be-rising stock today will likely be gone tomorrow, perhaps even in less than an hour.

Few day traders confine themselves to the same basket of stocks every day; instead, they use some kind of strategy to find new fields ripe for investment. They jump from stock to stock and sector to sector in search of a company that’s due for a big price move; this is what creates the potential for profit.

Quick reminder: What is day trading, anyway?

Day traders are not looking to invest in stocks they expect to increase in value over several years while stable, promising companies grow their profits. Instead, the day-trading philosophy relies on the market volatility created by other day traders (as well as long-term investors and other players) as stocks are bought and sold.

As always, the basic idea is to purchase a stock at a low price and sell when it’s higher. Day traders, though, wait only a few hours to take a profit. Alternatively, they might choose sell a stock short (or long) and take profits if the stock price falls (or rises).

How promising day-trading stocks are selected

The NYSE alone contains over two thousand tradeable stocks. Even if you restrict yourself to this single exchange (and the shares that move frequently enough to interest day traders), it would be impossible for a single person to manually fish around for opportunities.

That’s why day traders use stock scanners. These are probably the single best tool if you want to prospect for the best day trading stocks. Such a stock scanner can filter down the mass of shares available on the market using multiple criteria linked to interesting price movements.

The three most common, broad-strokes criteria used to judge short-term trading activity are:

Price
Volume
Volatility

NOTE: Some day traders also like to keep an eye out for breaking news alerts that may catalyse the market. More often than not, though, the stock price moves more quickly than the news. By the time you have had a chance to digest and react to the news, the opportunity is gone, and insiders and algorithmic traders have already taken profits. A better way to incorporate news into your strategy is to use it not as a signal but as a confirmation that some change in price, volume and/or volatility will be sustained.

Price

Day traders typically look for three distinct characteristics in a share’s price that indicate high activity and a chance to ride a move to profit.

Trend

Does the stock have significant upward or downward momentum, or is it hanging around in a trading range? If the price is trending higher, the highest-probability day trades are found in the direction of the trend, not against it. Likewise, stocks in a downtrend will often provide good short-selling opportunities. If the price is in a sideways price range, then traders will be looking for signs of “breakout” from this range, which we cover next.

Breakouts

A breakout occurs when the price moves beyond a price level technical analysis has determined to be significant. (A “ceiling” price a stock has not broken in some time is called a “resistance” level, and a “floor” it hasn’t dipped below lately is called a “support”.) The big idea is that, once the stock ventures into this new territory, buyers have become more enthusiastic than sellers (or vice versa) and the movement is likely to continue.

Which price levels are best for breakouts? Day and other traders often base their insights on support and resistance levels from previous price highs and lows, or a new high or low in some given period. One day-trading strategy is to buy a stock once it reaches a new 20-day high, for instance.

Gaps

When you look at the price chart of some stock and see a discontinuity, an empty space, you’re seeing a price gap. Essentially, the stock has “gapped” from one price level to another without being traded at the prices in between. This is a clear sign of high activity, and day traders will typically think about buying a stock that has gapped higher (or selling one that’s gapped downward).

A popular day trading ploy used by beginners is the “market-opening gap strategy”. A scanning tool can be set to filter out stocks that gapped at the time the market opened, along with the size of that gap – perhaps a greater than 5% move in the stock price.

Volatility

Volatility can be either a godsend or a swear word. It is a statistical measure of how much a price changes over a certain period of time. As day traders, high volatility is what we want! The greater the volatility, the higher the odds of buying a stock cheaply and selling it when it gets expensive in a short period of time (i.e. less than a day).

There are many metrics used to quantify volatility. Investors commonly use beta as a first-approximation number indicating how unstable a stock is. Beta is simply a comparison of how much a stock has recently moved with respect to a benchmark index like the S&P 500. If a stock jumped up 2% while the index rose 1%, it has a high beta. A low-beta stock, on the other hand, might have moved 0.5% when the index shifted 1% (in either direction).

Another measure of volatility, one that’s especially popular with forex day traders, is known as the Average Daily Range (ADR), or a variation on the same concept called the Average True Range (ATR). It is an average of the differences between the highs and lows of a stock or forex pair over a given range of time, normally the past two weeks.

Volume

Volume is simply the number of shares that have changed hands over a certain period of time. Volume spikes are characteristic of a stock that has drawn the attention of traders. High volume may represent either accumulation of the stock (more buying) or distribution (more selling).

Source: PSEstocktrading.com

By using a stock screener, day traders can filter for volume as measured by either the number of shares traded or by the value of all shares that have changed hands. It is also possible to filter for volumes greater than average for that stock.

Popular stock screeners

Here are 5 of the most widely used stock screener websites. Any of them can be a major asset to a budding day trader:

Over the course of this article, we have highlighted the most important filters to use on the stock screener: breakouts, gaps, volume, beta, and ADR. But many other filters can be applied to sift out exactly the type of stock you want to trade. For example, penny stock traders will filter for share prices under $1, or perhaps a market capitalisation of below $10M.

Invest in the best day-trading stocks

Picking stocks like a champion is well and good, but don’t forget about more fundamental tasks. Here are some steps you should take, other than the actual stock-picking process, to make sure you are well-positioned to make money in the market.