Three Different Types of Traders

Being called a day trader, swing trader, or position trader is both a badge of honor and a title. The majority of traders entering the field come through one of these gateways. Depending on the book they’ve read or the guru they’re following at the time, a trader can feel a sense of belonging.

The problem with being a “time frame specialist” is that it holds you back. While any time frame may earn you money, there are times when the market dictates which time frame is better. By not listening to the market and insisting instead on trading a specific time frame, you lose opportunities for profits and limit your success.

The market is the great dictator of time frame decisions. To ignore the market’s rhythms is to make it difficult to let your profits ride and cut your losses as necessary. Being a time frame specialist can limit your chances to manage your losses. Various loss strategies that apply to one time frame can apply to another time frame, if the trader is willing to look beyond his horizon.

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That being said, there are three traditional time frame categories that most traders fall into: day, swing, and position. No time frame is superior to another. They each have their own pros and cons. The secret to being a pro in successful trading is to move from one time frame to another seamlessly (if it makes sense), and knowing when it makes sense to do so.

Day Trader

Investopedia defines day trader as, “A stock trader who holds positions for a very short time (from minutes to hours) and makes numerous trades each day. Most trades are entered and closed out within the same day.”

The name could be day trader, scalper, or active trader, but the process is the same. You execute trades intraday in order to achieve your profit goals, with the express purpose of being flat in your trading at the end of the day.

Whether you are attempting to earn a few hundred dollars or even thousands, the practice is to take many small chances throughout the day without risking all your capital. By minimizing how much you are trying for, whether it’s a few points on the Emini S&P or a couple hundredths of a cent in currency trading, the belief is that you are risking less and therefore will have much greater longevity than the swing or position traders.

On the surface, this logic is sound. Problems arise when the market significantly moves against you when you least expect it, or when slippage occurs, or when there is a spread involved in the quoted bid ask price. Any of these three situations can diminish how much you are able to make and at the same time how much you are losing.

Couple this with a trader’s need to be right about the markets-as opposed to being profitable-and you run into what could be characterized as slow death. Every day the trader is gaining a little, but losing more. As time goes on he finds his account value slowly eroding, until eventually he either has no more trading capital or he can’t make any headway.

In the end the demise of the day trader comes about because of two things: time and commissions. Since day trading is supposed to save you money with a diminished time frame, it inversely requires more of your time to monitor, prepare, and participate. For those who simply want to make a little extra money or for those who are looking to supplement their retirement, the commitment can easily far exceed the rewards. Spending 10 to 12 hours a day involved in the markets, while mentally stimulating, can make anyone’s retirement feel like a chore.

The second failure of the day trader comes by way of commissions. Now even E*TRADE has jumped on the bandwagon and joined the futures revolution by offering 99-cent commissions. Commission rates are playing limbo around the world, to actively recruit futures and forex traders. The problem is that no matter how low they go, they will always beat the customer. You have to think of the commodities house as a bookie joint. No matter what side the customer is on, long or short or whether he wins or loses, the brokerage makes money. And the dirty little secret of the industry is the fact that the lower the commissions, the more the customers will trade.

Like anything in life, if you think that you are getting a deal for something you buy regularly, you simply buy more of it. That’s how Costco and Sam’s Club work. Those two companies are continually making record-breaking profits. There is no material difference between how these retail outlets generate business and trading. The perceived discount in trading encourages the traders to trade more. Does this mean that there is less slippage or that the market is less likely to move against you? No! Not only have all your risks stayed the same, but you have increased your exposure to them simply because it seemed cheaper to do so.

One of the most influential studies on the topic, “Do individual day traders make money?” (Brad M. Barber et al., 2004), took a serious look at the day trading phenomena by analyzing 130,000 investor accounts. Their abstract put forth many straightforward conclusions, one of which was, “Heavy day traders earn gross profits, but their profits are not sufficient to cover transaction costs.” This is an alarming revelation. If you are solely a day trader, you are not working for yourself: You are working for the brokerage.

Swing Trader

Investopedia defines a swing trader as, “A style of trading that attempts to capture gains in a stock within one to four days.”

The level of research that has been conducted on day trading simply doesn’t exit for swing trading. The flexibility of the time frame means that a trader may hold onto a trade for a few days or a few weeks, depending on the end goal.

Like their day trading counterparts, swing traders attempt to gain a few hundred dollars or more and they also attempt to limit their exposure to the markets by minimizing the amount of time spent in the trade. There is the assumption that the market moves in a particular direction, whether up or down, for only a finite amount of time before it retraces or pulls back.

The role of the swing trader is essentially to pick when the move begins and to get out right when the move ends. This ability is akin to being able to pick market highs and lows. The swing trader is looking to find out when the market is going to explode on fundamental or technical information and how much of a profit they can gain while it is moving.

This is nearly an impossible task to undertake. Many swing traders tend to be system or black-box traders. They look for the market to be packaged as a black-and-white scenario of “get in here and exit there.” The problem with this style of trading is that its predictive nature can lead to a lot of false entries and exits. You can be fooled by false entry signals or exit trades too early, losing all your profits by chasing the markets to catch that last little move.

If the market could be predicted to behave in a certain way then there would be no need for books, videos, and seminars about trading. We would be better off learning how to read tarot cards or astrological charts. The markets are really a microcosm of human psychology coupled with a dose of insider trading.

With the limited knowledge afforded to the retail trader, it is difficult to pick absolute tops and absolute bottoms. By attempting to trade within these parameters there is a significant need for risk management as opposed to money management in order to protect yourself from the unknown.

The weakness of the majority of swing trading is the belief that stop losses or risking only 2 percent is sufficient risk management. This could not be further from the truth. While less demanding in actual face time in front of the trading screen, swing trading requires a lot of preparation time to determine entry, profit, and loss exits. This preparation time is essential in order to set a trade and forget it. A lack of preparation time along with an insufficient risk plan leads many swing traders to give up.

Position Trader

A position trader (trend trader) is defined as “a trader who attempts to capture gains through the analysis of an asset’s momentum in a particular direction.” What these position traders are looking to do is to make the big bucks, no matter what the day-to-day fluctuations may be. This is similar to buying and holding stocks. The belief is that there are only two ways to make money in the markets: either you can afford to make quick sniper attacks or you catch a trend at its beginning and hold on.

There is sound logic in wanting to be a position trader, particularly in the current commodity bull market. The euro has increased from.89 cents to breaking over $1.50. If you had traded a euro futures contract you would have made $76,250; if you had held onto a euro spot trade you would have made $61,000 The same thing has happened with crude oil. Crude oil,, has gone from a price of $12/barrel to breaking over $100/barrel. A position trader that caught that entire move would have made $88,000.

Position trading can have great rewards, as the above examples can attest to. The core problem with position trading is that only with 20/20 hindsight can we see the actual result of buying and holding. During the wild fluctuations of the markets’ movements it becomes difficult to maintain a conviction. Long or short, position trading can be unnerving at times.

Rarely does a market simply move straight up or straight down. The peaks and valleys along the way give the illusion that a trend has stopped or a move is reversing itself, only to have it resume unexpectedly. While on the surface these moves may not amount to much more than a few percentage points here and there, the margin leverage makes it difficult to hold onto trades for the long haul. For example, if you trade a market with a 10 to 1 leverage, a 4 percent move against you is the equivalent of a 40 percent loss.

What trader would willingly give up 40 percent gains in order to make just 10 percent? None in their right mind, but that is what is asked of the position trader time and time again. By not knowing if the particular market they are trading has reached its plateau, a position trader must be willing to give up what he has for the possibility of gaining more. This simple fact makes it difficult for small retail traders to be both psychologically and financially prepared to properly hold onto trades for the long haul, even if they know that the market will continue in the direction they expect.

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