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The Rules of Day Trading

The Primary Rules

The rules which apply to day trading, under federal law, have very little difference to the rules which dictate traditional trading. According to John Visscher of Holloway Wealth Management, the primary difference between day trading and holding stocks in the typical long-term fashion is the tax rates which you are charged when you turn a profit.

If you buy and hold a stock for a year or more, you will be charged at a 15 percent tax rate regardless of your income or how much profit you made on the stock transaction, but if you purchase and sell a stock in less than a year, you will be taxed based on your income bracket.

As Visscher put it, "That may not be a big deal if you're a student and earn only $7,000 per year and thus only get taxed ten percent on the money you earn, but if you are a surgeon, day trading occasionally on the side, you will lose a large percentage of your profits."

One other primary difference between day trading rules and those which govern other accounts is the amount of money which the day trader must have in their account. According to the U.S. Securities and Exchange Commision's website Under the rules of NYSE and the Financial Industry Regulatory Authority (FINRA), customers who are deemed "pattern day traders" must have at least $25,000 in their accounts and can only trade in margin accounts."

Visscher explained the reasoning behind this rule saying, "Because day trading is so volatile and dangerous, trading brokers like Etrade and TD Ameritrade must be certain that they will be paid, in the case that the day trader's portfolio implodes and their leveraging crumbles from underneath them."

He described the potential for a phenomenon where a day trader purchases one stock, and then based on the equity in that one stock, they purchase another stock and another stock until all of their equity is eaten up.

"This can help create greater profit, but it creates greater potential for loss," he said. "And that is why the NYSE requires they have a greater cash value in there accounts; that way, if they were to lose their shirt on a few stocks in one day, they would most likely still have the money to cover their losses."

Insights From An Expert

John Visscher, a partner with Holloway Financial Management of Gainesville, FLA, sees the laws between day trading and long-term trading as being quite similar. In this clip, he discusses the laws and rules which govern day trading and which ones day traders should pay attention to if they plan to make a profit in the market.

Other Rules

The Securities and Exchange Commission's website characterized day traders in much the same way as Visscher.

The site states, "Day traders usually buy on borrowed money, hoping that they will reap higher profits through leverage, but running the risk of higher losses too."

In addition to this dangerous leveraging, the site warned that many day traders must take severe losses before ever posting a profit. It claimed that in the first few months "day traders typically suffer severe financial losses." So much so, that it warned any potential day traders that they should never use the money for their mortgage payment to try day trading.

Another interesting factor of day trading is that most financial experts do not consider it investing. Visscher called it a "bet," a "gamble," a "coin flip," and strongly discouraged anyone from engaging in it. The Securities and Exchange Commission agreed that day trading was not investing, saying "They want to ride the momentum of the stock and get out of the stock before it changes course. They do not know for certain how the stock will move; they are hoping that it will move in one direction..."

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Copyright © 2009 Matthew R. Beaton. All rights reserved