The Most Important Loophole for ANY Day Trader, pt. 2
Let’s pick up where we left off yesterday. If you missed part one of this article, go ahead and check your inbox for “The Most Important Loophole for ANY Day Trader” or go to our issue archives to read it here.
Yesterday’s issue ended discussing the $25k minimum required for compliance with FINRA’s Pattern Day Trader Rule… and how I caution against opening and margin account withover $25k and making four or more intraday trades in a week.
So if you want to follow my advice…
Day Trading Rules Under $25K
If you have a cash or margin account with less than $25,000 in it, you can still day trade. You just have to exploit the loopholes in the pattern day trader rule!
As I’ve already noted, you can day trade in a cash account, which means that you’re not using leverage and your activity doesn’t fall under the pattern day trader rule. I like this option because it keeps you focused on making smart, manageable plays.
You can also trade in foreign markets that have less stringent requirements. If you’re interested in FOREX or in foreign stock exchanges, you might be able to day trade more frequently with less money.
Pattern Day Trader Example
There are several situations in which the pattern day trader rule might apply.
Let’s say you open a margin account with a broker and deposit $10,000. On the first day, a Monday, you buy and sell leveraged shares of stock XYZ. On Tuesday, you buy and sell stock ABC, and on Wednesday, you short-sell stock DEF. Thursday comes around and you buy and sell shares of both ABC and XYZ. That’s five trades in four days, which means that you’ve met the criteria for the pattern day trader rule.
In this scenario, maybe you have equity of $15,000 in your brokerage account. You would have to deposit another $10,000 to abide by the FINRA guidelines.
My Tips on Following the Pattern Day Trader Rule
At one point, I hated the pattern day trader rule. It meant that I was limited in what I could do with my own money. Over time, though, I’ve embraced it and found ways to work around it.
I know it’s tough to watch the market day in and day out and not trade, so I encourage everyone with itchy fingers to practice, practice, practice. Use paper-trading features from trading softwares.
Although, disclaimer, while it’s a great method to practice and get used to the steps that go into making trades, try not to take too much away from your “paper profits” because it’s far easier when it’s not real money and there’s no emotion attached to the trade.
It’s the emotional discipline that most people lack that causes more than 90% of traders to lose.
I know I’m throwing a lot of facts and concepts at you, so let me make it real simple:
You don’t need to trade as much as you think you do to become wealthy.
And conversely, if you do trade as much as you think you need to, you will never be wealthy.
Let’s look at some of my best tips to avoid falling prey to the pattern day trader rule.
Don’t Use Leverage
I know I’ve already brought this up, but it bears repeating. Using leverage is a great way to lose your money. Why? Because you’re using someone else’s money on a play that might not work out.
If you don’t open a margin account at all, you don’t have to worry about the pattern day trader rule. Instead, use your cash account to make all your trades.
Don’t Make More Than Three Day Trades a Week (Especially When You’re a Newbie)
This is a good rule of thumb regardless of whether or not you have a margin account.
Buying shares of every stock that looks interesting will result in uncontrollable churn. It’s more difficult to keep your eye on multiple trades at once, and if you’re getting in and out in a short period of time, you need to be able to concentrate.
Focus on The 80-20 Rule
You’ve probably heard of this rule before. It applies to a lot of things, but in the stock market, it means that about 80% of your income will come from 20% of your trades.
Does that scare you? It should.
If you’re executing trades left and right, the 80-20 rule can start to work against you. The remaining 80% of your trades are likely to result in losses that your 20% can’t cover.
Set Strict Goals
Goals are a cornerstone of successful stock trading. If you don’t have goals, you won’t have anything to work toward.
What do you want to accomplish through day trading? Maybe you need a new car, have to pay off loans, or perhaps you want to secure your retirement.
Whatever the case, visualize your goal as you make trades. Before you pull the trigger, ask yourself, “Am I willing to put my goal on the line for this trade?” If the answer is no, stop and reassess your trade.
Be Prepared for the Stock Market
I can’t emphasize enough the importance of research, education, and preparation. If you’re unfamiliar with the stock market, start by learning everything you can.
This newsletter provides an awesome resource to get you started. I’ve written thousands of articles on penny stocks, day trading, and more. Spend every spare moment reading everything you can.
I also suggest signing up for my newest opportunity. It’s one of the best ways to harness your motivation and learn from me as well as my most successful students.
You can get in on a Friday, go enjoy your weekend, and come back Monday to what could be major profits. You will learn from these publications while also making real, hold in your hand, cash. Check out this video before 3pm today to get a full taste of it.
Is Day Trading Illegal?
There’s nothing illegal about day trading. As I mentioned earlier, day trading simply refers to the practice of making trades between market open and close. That’s it.
Where you might run afoul of day trading rules is with the pattern day trader rule. Make sure you’re not using a margin account to make four or more trades per week with less than $25,000 equity in your account.
Day Trading Laws
Other than basic securities law, there are no rules that govern how and when you can day trade. If you’re using a cash account, feel free to execute 20 trades per day. I don’t recommend it, but you have that right.
Frequently Asked Questions
I get a lot of questions from my students and from people who read this blog about the pattern day trader rule and similar topics. I’ll answer them here so you can refer back.
Does The Rule Affect Short Sales?
Yes, if you’re short-selling more than three stocks per week in a margin account, you have to follow the pattern day trader rule. Under the rule, there’s no difference between buying and selling like normal and shorting stocks.
Does The Rule Apply To Day-Trading Options?
Since the pattern day trader rule applies to all securities, options are subject to the law. The same goes for futures.
Does This Rule Apply Only If I Use Leverage?
This is where many people get confused, so I want to be clear.
The pattern day trader rule applies to margin accounts. If you’re using a margin account to day trade, you must either limit your trades to three intraday trades per week or maintain a minimum equity of $25,000 in your account.
However, you can use a margin account for cash transactions. This means that you’re not using leverage, but you’re trading from a margin account. In this case, the pattern day trader rule applies.
The Bottom Line
Day trading is one of the most exciting ways to make money in the world, and it comes with few restrictions. The pattern day trader rule is the only thing you need to worry about — and only if you’re using a margin account.
Editor, Penny Stock Millionaires