ABCD of Intraday Trading

July 04, 2020

A few years back, when I was struggling to become a profitable intraday trader, I had an opportunity to discuss with one famous positional trader/Investor in India. During my conversation with him, he made a strong statement "In the long run, intraday trading doesn't work, and intraday traders will burn out very soon!". It was a devastating statement for me as I wanted to become a successful intraday trader.

That time, I didn't dare to debate with him, and today I don't want to argue with anyone on any topic related to trading because I believe the below quote:

Don't suggest anything unless a person asked for it, and he is open-minded.

Because he will not value your suggestion if he is not asked for it, and your advice will not reach his mind if he is not open to it.

However, I am happy to share my thought process. In this article, I will answer two most frequently asked questions on intraday trading. They are:

1. Is Intraday Trading is Profitable?

2. Which Financial Instrument is the Best for Intraday Trading?

Is Intraday Trading Profitable?

A good question!

Before I answer this question, let me ask you a question.

Do you know how to fly an airplane?

Yes? No?

In either case, how do you feel if anyone asks you this question - "Whether airplane works?"

Do you think they are mad?

Irrespective of whether a person knows to fly an airplane or not, the value of the aircraft will not change, isn't it?

If a person doesn't know how to fly an airplane, then he should say, "I don't know how to fly an airplane,"

Do you agree with me?

Now, we will come back to the main question.

Do you still ask, "Is Intraday Trading is Profitable?"

I hope you got the point!

If a person doesn't know how to make money in intraday trading, then he should say, "I don't know how to take profitable intraday trades."

Right?

In that case, at least there is a small chance to become a successful intraday trader as it opens up your mind for tremendous learning opportunities in the world of intraday trading!

Besides, there is nothing about intraday trading profitable or not. It is only a type of trading in which you have to close the trade on the same day. If you are right, you make money, and if you are wrong, you lose money. That's all!

Few tips on Day Trading

One should have an open mindset to learn day trading, understand the associated risks & benefits associated with it, and should practice it consciously to get success in day trading.

- CLARITY is the key – Day trading is all about opting and closing the trade on the same day. When you get into a lower timeframe, the risk always increases, so is the reward. You may play safe with positional trading or swing trading. Still, quick money can only be made with intraday trading (only if you are at the right side of the market).

- Importance of FOCUS –One should develop the skills demanded by intraday trading and has to wait for better trade opportunities. Many times we get better trade opportunities like Trend days, which provides excellent risk-reward trades. In stock markets, always expect the unexpected and be ready for the reversal anytime.

- Importance of TRADING SYSTEM – Many traders quarrels with their trading system, and only a successful trader has the right trading tools. With time, he develops the skill to understand how to use those tools practically. You can use any indicator or concept, be it Market Profile, Order Flow, RSI, or Moving Averages. But you should know the effective utilization of those concepts, and they should match your temperament.

- TIME Stop-loss–Many traders say 'Never trade without a stop-loss,' but they refer to price stop-loss, which means they will be in the trade until the price hits their stop-loss level or their target level. However, in intraday trading, just price stop-loss is not sufficient (especially if you are trading in 'Options'). One should know how to exit early even if the price doesn't take your stop-loss to prevent time decay loss in options (I will explain the importance of "TIME" in intraday trading in my next article).

- Importance of BREAK – World famous trader Jessy Livermore said, "There is time to go long, time to go short and time to go fishing." You should know when to take that break from trading. It may be because of market conditions or if you have any issues with your mindset. Do understand fools trade day in and day out to create opportunities for patient traders to trade when the opportunity unfolds.

- Importance of LEVERAGE – Most intraday traders have risk management strategies. However, they fail to apply this in the live market. At many times they ignore it and take a more substantial trade than they usually do. There are many reasons to this – you want to do revenge trading, you might have several losing trades in a row, you don't want to miss an opportunity, or you feel so confident that you can't lose, etc. Successful traders never commit this mistake. So, one should know when to use leverage effectively. Leverage is a two-edged sword. It will increase your profits if you are on the right trade and also your losses if you are on the wrong one.

Major Learnings

Our belief system and mindset have to be correct to make money in day trading.
Accepting I don't know how to take profitable day trades instead of saying "day trading doesn't work or day is not profitable" will open the doors for learning and earning.
Day trading offers many advantages as compared to other types of trading.

Which financial instrument is the best for day trading?

We have below three trading instruments in the stock market:

1. Equity

2. Futures

3. Options

So, a trader should know how these trading instruments work before they plan to take any intraday trade.

Now assume a new trader has Rs. 2,00,000 in his trading account, and he wants to make a trade with APOLLO HOSPITALS as on 20/06/2020 (CMP 1370).

Case-1 With Equity:

The current Market Price of APOLLO HOSPITALS is 1370.

So, the total shares he can buy is 146 (approx) with a capital of Rs. 2,00,000.

Now we will try to understand both the 'Profit' and 'Loss' from this trade.

Profit - Assume, on the next trading day, this script moved 10% on the upside. In this case, he will make a profit of Rs. 20,000, and his current portfolio value is Rs. 2,20,000.

Loss - Assume, on the next trading day, this script moved 10% on the downside. In this case, he will make a loss of Rs. 20,000, and his current portfolio value is Rs. 1,80,000.

Case-2 With Futures:

The current Market Price of APOLLO HOSPITALS is 1370.

Image - Margin requirements information (as on 20/06/2020)

So, with a capital of Rs. 2,00,000, he can buy 1 lot (500 quantity) (Ignoring extra 121 Rs)

(This info can be found in F&O Margin calculator from most of the broker sites)

Now we will try to understand both the 'Profit' and 'Loss' from this trade.

Profit - Assume, on the next trading day, this script moved 10% on the upside.

10% of 1370 (CMP) is 137.

Total Profit = 1 lot (500 quantity) X 137 = Rs. 68,500

In this case, his current portfolio value is Rs. 2,68,500.

Loss - Assume, on the next trading day, this script moved 10% on the downside.

10% of 1370 (CMP) is 137.

Total Loss = 1 lot (500 quantity) X 137 = Rs. 68,500

In this case, his current portfolio value is Rs. 1,31,500.

Case-3 With Options:

We have two types of Options:

- Call Option (CE) - A call option is a type of options which gives the call owner the right, but not the obligation to buy a security at a specified strike price within a specified time frame. In simple words, the premium of the CE will go up if the underlying script price goes up (assuming all the other factors constant).

- Put Option (PE) – A Put option gives the option holder the right to sell an underlying security at a specific strike price within the expiration date. In simple words, the premium of the PE will go up if the underlying script price goes down (assuming all the other factors constant).

Further Options Trading can be divided into two types:

- Options Buying (either CE or PE)

- Options Selling (either CE or PE)

Option Selling demands enormous capital, and hence only institutional traders or big traders deploy this type of trading.

To keep the article simple, I am explaining the Options trading only from buying perspective.

The current Market Price of APOLLO HOSPITALS is 1370.

One should look at the option chain for the nearest strike price on the NSE India website or with your broker terminal to get the LTP.

Image - APOLLO HOSPITALS Option chain CE/PE info at 1380 strike price (as on 20/06/2020) (from NSE INDIA website)

So, with a capital of Rs. 2,00,000, he can buy 4166 (LTP of both CE and PE is 48) quantity (ignoring Lot size at the moment)

Now we will try to understand both the 'Profit' and 'Loss' from this trade.

Profit - Assume, on the next trading day, this script moved 10% on the upside.

Option LTP approximately increase by 75% of the change in the underlying price (Implied Volatility is also around 70–75% for this script).

10% of 1370 (CMP) is 137 (change in the underlying instrument), and 75% of 137 is 102.75.

So, Total Profit = 4166 quantity X 102.75 = Rs. 4,28,056

In this case, his current portfolio value is Rs. 6,28,056

Loss - Assume, on the next trading day, this script moved 10% on the downside.

In this case, the LTP of 1380 CE will become zero.

Hence, this trader will lose his entire capital.

Summary:

Image - Capital size after the execution in Equity, Futures, and Options (Initial Capital – Rs. 2,00,000)

The above image is self-explanatory.

Most retail traders try their luck in options to make quick money. However, my sincere caution to all the retail traders is to master their trading skills before trying anything in options. The above explanation is only a theoretical assumption, and in the live market options, LTP may change due to other factors (like time for expiry, volatility, etc).