The Risks of Day Trading

Day trading is not investing, or even speculating.  It is gambling.  In investing, the odds are well in your favor.  In speculating, the odds are slightly in your favor or even somewhat against you, but there is a good chance of making a good profit.  In gambling, the odds are well against you and the longer you do it the more you’ll lose. 

This is not to say that you can’t make money gambling for short periods of time.  Obviously if you walk up to the roulette table and place $100 on red, almost half of the time you’ll walk away with $200 if you pick up your money after one spin.  It just is that if you keep sitting there, putting money on red, the slight advantage the house has due to the two house numbers will result in you losing money over time.

In buying and selling stocks, you’ll pay a commission each time you trade.  With discount online brokers these fees might be as low as $10 per transaction.  With a full service broker it will be about $75 per transaction.  If you make a profit, you will owe short-term capital gains taxes, which are the same as your standard income from working (please check with a CPA to verify this).  This means that when you make money, you will owe money in taxes and commissions.  When you lose money, you’ll still owe commissions.  This is like gambling with a cover charge and a split with the house for each win.  At least in Vegas you get drinks and flashing lights.

Also, assuming you’ll make 100%, or even 25% overnight on a trade for a stock is very unrealistic.  While there were some big moves during the dot com IPOs, the average person doesn’t get the stock at the IPO price.  They get it at whatever price it moves to soon after the open.  There is often some mania attached, which will then subside, causing the stock to drop. 

Day traders don’t make big scores on single stocks (usually).  Day traders buy gobs of shares and then sell when the stock moves by a few cents, making less than a few percent but having enough shares traded to make $500-$1000 per trade.  If they can get a lot of these successful trades in a day, they can make some money, but once again the odds are always against them because the house keeps taking their cut.  I saw it estimated that a day trader would need to make something like an average 85% return just to break even after fees and taxes.

Instead of your stock market gamble, I suggest the following.  Assuming you’re at least 21, take $500 and load up the car with a few friends and go to Vegas, or Atlantic City or whatever is near where you live and have a weekend of gambling.  You’ll likely lose some or all of the $500, but you would have lost that anyway in your day trading and at least you’ll get some “free” drinks (that cost about $50 each) out of the deal and some memories. 

Then take the remaining $1500 and find a good company that is profitable and has a lot of room into which to expand.  Buy as many shares as you can with your $1500 and then forget you own the stock for 10 of 20 years, maybe checking on it every year or so.  As long as the business is still profitable and there is room to expand, leave things alone.  If the business changes, sell your shares.  If it grows into $20,000 or some amount so large you would hate to lose it, sell some of the shares and invest in other companies.

Sure, this is dull as dirt, but if you do this, and maybe keep saving up $2000 every year or two and buying another stock each time you have the money, you’ll be a millionaire by the time you’re 50.  Then you can take a portion and gamble all you want.  Although you probably won’t want to gamble once you’ve learned what the power of real investing can do.

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Disclaimer: This blog is not meant to give financial planning or tax advice.  It gives general information on investment strategy, picking stocks, and generally managing money to build wealth. It is not a solicitation to buy or sell stocks or any security. Financial planning advice should be sought from a certified financial planner, which the author is not. Tax advice should be sought from a CPA.  All investments involve risk and the reader as urged to consider risks carefully and seek the advice of experts if needed before investing.

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