Assuming you have either started day trading or are looking to get into the game, I am going to shock you in this article. What I will cover here would have saved me 20 months of headache if I just had someone give it to me straight. Recent studies have shown that the majority of trading activity occurs in the first and last hour of trading. Let me make this even easier for you, only focus on the first hour and watch how simple it all becomes.
Why First Hour Trading
Simply put, trading during the first hour provides the liquidity you need to get in an and out of the market. On average the market only trends all day less than 20% of the time. Most new day traders think that the market is just this endless machine that moves up and down all day. In reality the market is pretty boring. The one time of day which consistently delivers on sharp moves with volume is the morning. Assuming you are doing this for a living you will need some serious cash. Day trading isn't something you should undertake with your lunch money. If you were trading with a $100,000 per trade how much volume do you think your stock needs? If you are really reading this article the first response from you should have been what's the price of the stock. Assuming you were already thinking that, you need tens of thousands of shares trading hands every 5 minutes. Reason being, you need enough volume to enter the trade, but also enough that you can potentially turn around in a matter of minutes and close out the same trade you just put on.
Let's get more granular when we say the first hour
The first 5 minutes
Now that the market has opened. the first noticeable increment of time is the first five minutes. I have no study to back this one up, but from my own experience and talking with other day traders the 5-minute chart is by far the most popular time frame. Within the first 5-minutes you will see a number of spikes in both price and volume as stocks gap up or down from the previous days close. This will often be driven by some sort of earnings announcement or pre-market news. This first five minutes is arguably the most volatile time of day. There is no high or low range for the day and odds are the previous days range has been eclipsed by the gap. With no clear boundaries for where to go, to short or buy after the first 5 minutes in my opinion is nothing more than a gambler's paradise. If you are serious about your trading career stay away from placing any trades during the first 5 minutes.
Below is a chart of NII Holdings (NIHD) which is one of the more volatile stocks on the Nasdaq. Notice how NIHD gapped up on the open to a high of 9.05 only to come back down to earth and close at 8.73. How do you think NIHD trended over the next hour?
Let me not keep you waiting too long. All of you advanced day traders will say that the stock continued lower because the stock had such an ugly candlestick on the first 5 minutes. Well guess what, in this particular instance you would be correct.
Remember I am a day trader so I already know what you are thinking. You are probably saying to yourself, well Al I can place a buy order above the first 5 minute candlestick and a sell short order below the low of the candlestick. You may even take it one step further and place your stop order neatly behind the high/low of the first candlestick to box in your risk. Sounds simple enough right? Wrong! This is nothing more than saying to yourself that you are going to gamble your money within a defined framework. While I do believe keeping trading as simple as possible is the best means for creating wealth, this approach is just too simple and unpredictable.
9:30 - 9:50
The 9:30 - 9:50 time segment will look odd to you because it is. Most traders will wait for the first half an hour to complete and wait for a clearly defined range to setup. I have noticed over the years that if a stock is going to head fake you, it will often do it at the 10 am hour. Another reason I like 9:50 as the completion of my high low range is it allows you to enter the market before the 15-minute traders second candlestick prints and before the 30-minute traders have their first candlestick print.
After the completion of the 9:30 - 9:50 range you will want to identify the high and low values for the morning. The importance of identifying the high and low range of the morning provides you clear price points that if a stock exceeds these boundaries you can use this as an opportunity to go in the direction of the primary trend which would be trading the breakout. Or you can go against the primary trend when these boundaries are reached with an expectation of a sharp reversal.
Below is another example of the stock NIHD after it sets the high and low range for the first 20-mintues.
At this point you have one of two options. Your first option is to buy the break of the 9:50 candlestick and go in the direction of the primary trend. I am of the opinion that when you see stocks b-line like this for the first 20 or 30 minutes, the odds of the stocks continuing in that fashion are slim to none. I personally like to see a stock bounce around a bit and build up cause before going after the high or low range.
Your second option is to short the stock with the expectation NIHD will reverse in or around the 10 am time block. I am not a fan of this approach either because you are just hoping that the stock will reverse, but there is no real justification.
So, looking at NIHD what would you do at this point? The correct answer is you should stay in cash.
As you can see in the above chart, NIHD floated sideways for the remainder of the first hour. Do you see how sizing up the trade properly would have allowed you to miss all of this nonsense.
9:50 to 10:10
The 9:50 to 10:10 time slot is where you will want to enter your trade based on a break or test of the high and lows from the first 20 minutes. Now that we have already had our head fake example earlier in the article, let's focus on one that follows the happy path.
This is a clean example from Newmont Mining on 5/7/2013. Notice how the stock was able to shoot down and build steam as the stock moved lower. In theory waiting for a break of the range after an inside bar or a tight trading range will often lead to consistent profits. The key thing to remember with the 9:50 to 10:10 time frame is this is the only window of opportunity to enter new trades. If you place a trade at let's say 10:15 and you are trading the first hour, it only provides you 15 minutes to close your position. Unless you are trading ticks, which I think is a sure way to make your broker rich, you simply don't have enough time for the market to move in your desired direction.
10:10 - 10:30
The last twenty minutes is where you let the stock move in your favor. This doesn't sound like a lot of time, but if you step back for a second this represents a potential of 40 minutes from the time you first entered the trade at 9:50. Now there is no law against you holding a stock beyond 10:30, for me personally I allow my positions to go until 11:00 am before I look to unwind. The key thing I want to get across here is that you get out of the mindset of letting your profits run. I honestly get visibly frustrated when I hear people giving this advice to new traders. In today's world there are way too many automated systems and retail investors all clamoring over pennies, stocks no longer move in a linear fashion where you can sit back and place your trades on cruise control. The amount of head fakes and erratic behavior is just over the top. For me personally, setting a clear profit target is the best way to ensure you take money out of the market on a consistent basis. If you want to read more on this topic you can check out any of the following articles: Day Trading Targets and Trading Plan - Key to a Successful Trading Business. Each of these articles will clearly breakdown the importance of getting in a rhythm of taking profits.
So, the last 20 minutes of the first hour is not the time to just hang out and see how things go. This is the time where you need to be on the lookout for closing your position and you must have some idea of where you want to close the position. I personally like to have a set percentage target that I'm shooting for while others may adjust this value based on the volatility of the stock. It really doesn't matter over the long run because you will adapt your trading strategy to your performance. The key thing is making sure you are coming from a place of wanting to pull profits out of the market.
Why 11:00 am is a bad time
Most of you reading this article will say to yourselves, this makes sense. I should trade during the first hour when I have the greatest opportunity to make a profit since there are the greatest number of participants trading. Since I am a trader I know there are still a hardcore group of you reading this thinking, I can make money all day. This is actually a true statement. You can make money all day. The only problem is the vast majority of people do not. You will see that around 11:00 am the volume just dries up in the market. This is because the institutional investors and hedge funds realize that there is far more work and risk to be had during the middle of the day than potential profits. The resulting price action when the true stock operators are away from their desk is basically a lot of sideways action. Stocks will breakout only to quickly rollover. Stocks will begin to move in one direction with nominal volume for no apparent reason. Lastly, while there may be price movements, they are so small that after commissions and time spent fighting the market it's just not worth the headache. Oh how I wish I had come across an article like this back in the summer of 2007, I may actually still have a few strands of hair on my head.
Just Settle Down
Think about it, in any line of work you want to follow the methods and strategies of the people who are the most successful. Don't try to fight the market just for the sake of being able to tell your family members and friends you were trading all day. You are in the business of making money, not working long hours. If you think my experience isn't enough reason to caution you, Thomson Reuters did a study and have concluded that 58% of all volume on the NYSE occurs during the first and last hour of trading. Of course the bulk of that trading is in the first hour. So, while one hour may only make up ~15% of the trading day, it is probably accounting for 35 to 40 percent of all the trades on average. Again I will ask you, why would you want to trade during any other time of day than the first hour. If I can not sway you from your desire to be involved in the action of the market, then maybe at least take a break between the hours of 11 am and 2 pm. While the afternoon does not have as much volume as the first hour trading, you can still catch some good price swings. Funny as I right this it makes me think of trading in terms of surfing. All we are trying to do on any given day is catch some really good waves.
Hopefully you have found this article useful and it has provided some additional insight into first hour trading and some basic approaches you can take in your day trading strategies to capitalize on the increased volume in the morning session. Please now take a minute and visit our site Tradingsim and check out how you can use our trading simulator to help you become a better trader. Can't take my word for how difficult intra-day trading can be, well try placing a few trades in our application and end all of the speculation once and for all.