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Techniques of Electronic Day Trading & SOES Trading
by Mark A. Seleznov
Managing Partner
Trend Trader, LLC
Day
Trading can be easily described as the buying and selling of stocks during
the trading day in your own account. Your goal as a Day Trader is to be
profitable, and flat (carrying no positions at the end of the trading day.)
Don't be misled into thinking that anyone can walk through our doors, sit
down at a computer, click off some trades, and be profitable. Day Trading
is a serious business. It is a profession and like other professions it
requires training and experience. Your success in Day Trading relies on
your willingness to dedicate yourself and your abilities to learn the techniques
required to be successful. Why the interest in Electronic Day Trading? It
is one of the last bastions of pure capitalism. It levels the playing field.
It is a true equalizer.
The
1990's has brought an evolution in Electronic Trading and an expanded and
more common use of Electronic Trading in a number of marketplaces. The terms
Electronic Day Trading and SOES trading have been used interchangeably by
most people. For the purposes of this discussion, we will use them interchangeably
as well.
The
OTC market is a negotiated market without a central place or trading floor.
It is composed of a network of thousands of brokers who make securities
transactions for themselves and their customers. Professional buyers and
sellers seek each other out electronically and trades are made in a matter
of seconds.
The
NASDAQ action market has been a leader in this area. Nasdaq market makers
input their bids and offers electronically into their Nasdaq workstations.
The average person only sees the best bid or offer (NBBO, National Best
Bid and Offer), but Electronic Day Traders use Level 2 market maker screens
to see all the bids and offers of each market maker in a particular stock.
A
little history and definition of the term Nasdaq SOES will help you understand
what SOES is and what SOES is not. The Whole Nasdaq SOES system is projected
to have a major overhaul shortly. It is advised that you check any rules
that are discussed in this article with your own broker.
Nasdaq
SOES was created in 1985 and made mandatory after the 1987 market collapse.
At that time, many small investors were unable to sell stocks as prices
fell because they couldn't reach dealers or market makers on overloaded
phone lines. SOES provides small investors with quick access to the Nasdaq
market. The purpose of the SOES system is to enable the average person to
get an honest, immediate, legitimate execution and to bid and offer shares
in between the spread to achieve price improvement. Day Traders add liquidity
to the markets, benefiting all investors.
The
existence of the SOES (Small Order Execution System), SelectNet, ECN's like
Island, Bloomberg, and Archapelico, and REDI has eliminated significant
advantages enjoyed for years by the market making community.
SOES
Day Trading provides a way for individuals to trade for their own accounts
and decreases the significant advantages of market makers and larger institutional
investors. Day traders are in the unique position of having a very short-term
relationship with the market. For many years, Day Trading was considered
to be the most speculative of speculative trading activities. Today, the
Day Trader is in a much more advantageous position.
The
Electronic Day Trader is the gunslinger of equity trading. The trader can
limit losses, with the ability to "SOES" out of a position instantly.
Traders use real-time quotes and decision support software enabling them
to see market makers adjusting their quotes as they happen. They can see
real time executions permitting traders to view the last trade and volume
that was executed. The visual capability that comes from state of the art
software and technology that is available to the trader through tickers,
quote screens, and charts, has come a long way over the past few years.
Objectives of the SOES Trader
Electronic
SOES traders succeed by cutting losses and grinding out their profits. Successful
traders know that trying to hit a home run is a sure way to get burned.
The tools that are available, combined with small commissions and trading
costs, eliminate the need to take big risks. Learning to use the tools available
with maximum efficiency is one of the most important elements contributing
to successful trading.
Electronic Day Trading Tools
Trading Capital
The
minimum trading capital (equity) required to trade successfully, is in the
range of $100,000. Potential traders should keep in mind that capital used
to trade should be money that they can afford to lose. The loss of this
capital should not alter the traders life in any meaningful way. Only a
small number of traders, actually have the discipline and talent to be successful
consistently.
Margin Requirements
and Regulation T
Traders
are customers of a broker/dealer that executes their order. Customers are
subject to normal Regulation T and margin requirements. A margin account
allows the trader to enhance the leverage in securities transactions using
credit extended by the brokerage firm. Regulation T empowers the Federal
Reserve Board to establish how much credit a brokerage firm can lend. In
most cases, 50% of a position can be financed by the brokerage firm. In
other words, $100,000 of equity capital can support $200,000 in positions.
Attitudes of a Successful
Trader,
The problem With Opinions
A trader
with an "opinion" on the stock, can hurt his short term trading
results. However, trading without any prejudice frees you to trade from
both the long side and short side of the market. The trader can watch the
activity in a particular stock and take action based on what is happening,
rather than his opinion. Trading is the art of second by second risk management.
As
an example, suppose the market on a stock is 20x20-1/8 (1000x1000). Suddenly,
large market makers like Goldman Sachs and Morgan Stanley enter a 20-1/8
bid. This could indicate to you the short-term direction of the stock. It
does not matter why they are buying but only how fast you can react and
buy stock. The trader must react first and rationalize later.
Past
experience is a negative. Ironically, an individual with past experience
who believes they know a great deal about stocks and markets often make
poor day traders. Trading is a game played from moment to moment. It makes
no difference if the trader knows the earnings of a particular company before
it is announced next week. What matters is the way other investors are reacting
today. Buy if it's going up and sell if it's going down.
Stocks are "Four Letter Words"
It
is best to view stocks simply in three and four letter terms rather than
individual companies. If a group is performing well, pick the best stock
in the group and trade it from the long side. Do not buy the weakest stock
in the group with the hopes that it will catch up. Chances are it will not.
Buy strength, and sell weakness.
To
make money trading, you do not need to forecast the future. You have to
extract information from the market and find out whether bulls or bears
are in control. You need to measure the strength of the dominant market
group and decide how likely the current trend is to continue. You need to
practice conservative money management aimed at long-term survival and profit
accumulation. You must observe how your mind works and avoid slipping into
greed or fear. A trader who does all of this will succeed more than any
forecaster.
Winning Attitudes of a Successful Trader
Everyday
is a new, different day for the trader. It does not matter that the tech
stocks were strong yesterday. What does matter, is identifying the groups
that are active today. Traders often make the mistake of focusing on one
group too long. The action might be somewhere else on a given day.
Everyday
is a "new day". If a trader has an overnight position, and hence
an opinion, he is no longer free to trade the market momentum. If, on the
other hand, the trader is "completely flat" coming into the new
day, he is free to make unbiased assessments and trade the market. I really
don't care what Asia or Europe is doing, but I can react to what they did
when our markets open. I don't have to worry about the "daily number
of the day", just act on the trend.
Effective Trading
Can Be Learned
Many
traders are quite capable of learning to be more effective. One of the prerequisites,
however, is to learn from people who are organized in their thought process.
Successful day trading is built upon a unique foundation, combining art
and science.
Reading the Tape
SOES
trading is a modern form of trading via tape watching. The rules of the
Nasdaq market makers in a stock must display their current quotes. Market
makers are constantly updating and changing these quotes in response to
supply and demand, news, and other factors that influence market movement.
Herein lies the opportunity for the SOES trader. The Electronic Day Trader
is constantly looking for the beginning or the end of a trend, and tries
to buy or sell a stock short, while the stock is moving in price. Always
remember: "The trend is your friend". Fighting the trend is a
surefire path to disaster. To Day Trade profitably, you must take advantage
of brief flurries in prices. Large intraday price moves can occur in response
to news and other outside influences. At times, the rumor mill will drop
or rally prices quickly. Program trading is still a profitable activity
for large institutional type traders. Regardless of the source, consider
all price rallies or declines which occur quickly within the days trading
session to be an opportunity for you to either exit your current position
at a profit, or to establish a new position using support and resistance
methods.
The Key is Discipline,
Discipline, and
More Discipline Improving Your
Chances For Success
Frequent Reasons For Bad Trades
Different Trading Styles
Arbitrage: Involves the simultaneous purchase of a security
from one market maker, or exchange, and the sale of it through another,
and profiting from the difference in prices from the two market makers or
exchanges.
Example: DELL is being low offered by MSCO @ 89-1/8, and
is simultaneously being high bid by AGIS @ 89-1/4. By buying the stock from
MSCO @ 89-1/8 and immediately selling it to AGIS @ 89-1/4, you have arbitraged
$125.00 profit.
The
previous example used an OTC stock, arbitrage can be exercised on exchanges.
CPQ is being high bid on the NYSE @ 57, and low offered by PSE @ 56-3/4.
In this instance you can buy CPQ on the PSE and instantly sell it on the
NYSE and lock in $250.00 profit from the price differences between the two
exchanges.
Grinder: This style of trading is typically the most active
of the different styles of trading. It is based on taking positions and
immediately bidding or offering your position at a 1/16 or 1/8 above or
below, locking in a small profit. Locking in small profits of a 1/16 or
1/8, 30 to 40 times per day can be very profitable, and satisfying.
Market
Maker: Typically this person tries
to emulate the Market Makers. With this style you will attempt to buy on
the bid side of a stock, and sell on the offer side of a stock. This can
be difficult to trade in this manner.
Position: A position trading style can be very lucrative.
A position trader can often just be in one position at a time, but generally
this position may be rather large. A position trader tends to be long or
short one stock, but in a size greater than 1000 shares. A position trader
will buy/sell 1000 shares of stock on the SOES system, wait five minutes
or more, then buy/sell another 1000 shares, this is building a position.
He may also choose to enter his position in one transaction. To achieve
this he may buy/sell his intended position by way of an E.C.N. or SelectNet,
where they are not restricted to the 1000 share maximum per transaction,
and they are not subject to the five minute rule.
Editor's Note: Mark A. Seleznov is a General Securities Principal and
Managing Partner of Trend Trader, LLC, a NASD, SIPC broker/dealer firm specializing
in Electronic Trading for Institutions, Day Traders, and Retail clients.
Trading is offered at their on-site facility in Scottsdale, AZ, as well
as remote from their customer's offices and homes. A professional trader
for over 25 years, Mark was a Market Maker on the Philadelphia Stock Exchange,
a Retail Registered Representative, and futures trader. Mark is an author
and recognized expert in equity Day Trading. He conducts seminars in Equity
Day Trading and offers his firm traders training and support. You may contact
Mark A. Seleznov at Trend Trader, LLC at 602-948-1146.
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