There are several different day trading rules that you should be aware of, regardless of whether you are trading stocks, forex, futures, options, or cryptocurrencies. Failure to comply with certain rules can cost you significantly. So, pay attention if you want to stay solid in black.
While the rules vary depending on your location and the volume of trades you trade, this page will touch on some of the most important ones, including those around day trading streaks and trading accounts. It will also outline rules that beginners will be wise to follow and experienced traders can also leverage to improve their trading performance, such as risk management.
USA
Margin Requirements For Pattern Day Traders
If you live in the United States, one of the most important rules is whether you fall into the ‘pattern day trader’ category. These rules and regulations originate from the Financial Industry Regulatory Authority (FINRA) and apply to all pattern day traders in the US who have margin accounts. These regulations focus on those trading under and over 25k, whether on Nasdaq or other markets.
Pattern Day Trader
So, what is a ‘pattern day trader (PDT)?’ If you make more than three trading days in a five business day period, provided that the trading volume exceeds 6% of the trading volume in your account during this period, you meet the minimum criteria.
What Defines Day Trading?
Trading volume plays an important role in this calculation, so you need a comprehensive understanding of what is considered a day trade.
A day trade is simply two transactions in the same instrument on the same trading day, for example buying and selling shares, for example. The two transactions must be outside of each other to meet the definition of a day trade for PDT requirements. Therefore, if you hold any position overnight, it is not a day trade.
Number of Trades
Total stock quantities can sometimes confuse individuals, gray rules and cause costly mistakes. Here are some examples to highlight the point.
- If you enter a stock position with one 2000 share order and exit the position with two 1000 share orders, all three trades will be grouped together as one trading day.
- This is the same way. If you open a position with two 1000 stock orders and close your position with one 2000 trade order, again this will be considered one trading day.
- Let’s say you open with two 400 stock trade orders and close with two 400 stock orders. This will be a two day trade, not one, as you will have two trades at both ends.
Rules
Once you meet these criteria and are considered a pattern trader, there are certain rules and regulations that you must follow:
- Minimum account balance – The most demanding hold an account balance of at least $25,000. If the total asset value falls below that figure, you will have no buying power. It is also worth noting that you cannot meet this requirement by securing a separate account. However, you can meet this minimum requirement with a combination of cash and eligible securities.
- Existing sales conditions – Note the sale of existing positions from the previous day and the purchase of subsequent purchases are not considered day trading.
- Buying power – Your day trading power will be four times higher than the New York Stock Exchange (NYSE) following the close of business the previous day. The ‘time and date’ way of calculating day trades is acceptable. If you exceed this limit, a margin call will be issued.
- Prior margin calls – If the account already has outstanding margin calls, your buying power will be reduced to just two times the NYSE excess. In addition, the ‘time and mark’ calculation technique cannot be used while the margin call remains outstanding. Instead, the aggregate method, which uses the entire day’s trading volume will be used.
- Failure to meet a margin call – If you fail to meet a margin call for more funds within five business days, your buying power will continue to be reduced to just one time NYSE excess for ninety days (cash trades only), until you have met the call.
- Minimum requirements – When you deposit funds to meet minimum equity requirements or to meet margin calls the funds must remain in your account without withdrawal for at least two business days.
Advantage of Leverage
Despite the strict rules and regulations, one advantage of this account comes in the form of leverage. Traders without a day pattern trading account can only hold positions with a value of twice the total account balance.
With a day pattern trading account you get about twice the standard margin with stocks. This buying power is calculated at the beginning of each day and can significantly increase your profit potential.
However, it is important to highlight that this will also raise losses. In fact, you can lose more than your initial investment, and if you can’t subsidize that immediately your broker can liquidate your position.
A Hard Title To Shake
Keep in mind that if the broker provides you with day trading training before opening your account, you can be automatically coded as a day trader. Therefore, even beginners should be prepared to save a significant amount of money to get started.
Also, even if you do not trade for a period of five days, your label as a day trader will not change. Your broker will maintain a ‘reasonable belief’ that you are a pattern day trader based on your previous activity.
If you change your strategy or reduce trades, then you should contact your broker to see if you can reverse the rules and have your account changed. The conclusion
Are There Regulations Regarding Cash Accounts?
For those looking for an answer as to whether the day trading rules apply to cash accounts, you may be disappointed. The rules for non-margin, cash accounts, stipulate that trading as a whole is not allowed. They are permitted only to the extent that the trade does not violate the free-riding prohibition of Federal Reserve Regulation T.
If you fail to pay off the asset before you sell it in the cash account, you violate the free-riding prohibition. This complies with the broker to enforce a 90 day freeze on your account.
Do Rules Apply to Choices?
To answer the question regarding each option trader’s lips, do day pattern trading rules apply to options? The answer is yes, they do.
Unfortunately, those hoping to rest on the steep minimum requirements will find no shelter. Having said that, as our options page shows, there are other benefits that come with exploring options.
Finally, there are no pattern day rules for the UK, Canada or any other country. These rules are set by the US FNRA and therefore only apply in the US.
Buying and Selling Rules
In addition to the rules surrounding pattern trading, there are other important rules to be aware of in the United States. This simple rule set by the IRS prohibits traders from claiming losses on the sale of security trades in wash sales.
A wash sale is defined by trading a security at a loss, and within thirty days of either side of this sale, you buy a ‘similarly similar’ stock or security or an option to do so. The criteria are also met if you sell a security, but then your spouse or company controls the purchase of a very identical security.
If the IRS will not allow the loss due to the wash sale rule, you must add the loss to the cost of the new stock. This will then be the cost basis for the new stock.
Example
For example, say you buy 200 shares of Amazon for $30 each, sell the shares at $25, creating a capital loss of $1,000. Then two weeks later you buy 200 shares at $27, which you go to sell a week later for $37 a share. Your net loss on a wash sale is the $5,000 sales, minus the $6,000, plus the $1,000 adjustment, which is $0.
You then add the $1,000 disallowed loss to the $5,400 cost of the stock. Your capital gain is the $7,400 sales revenue minus the $6,400 adjustment cost. Therefore, you will benefit from losing $1,000 on the wash sale by reducing your profit on the second sale by $1,000.
Account Rules
Many traders ask – “Do day trading rules apply to forex, stocks, options, futures, etc?” But actually the rules usually depend more on the broker and your account.
Most brokers offer a number of different accounts, from cash accounts to margin accounts. You will often find that each account has its own rules and regulations that you need to follow.
Here are some rules to investigate before signing up with a new broker:
- Minimum deposit – Some brokers will require you to deposit more capital than others when you open an account. These rules will immediately put some brokers outside of many traders’ budgets. Beginners, for example, may want to find a broker with minimal minimums while they find their feet.
- Daily trading limits – In general, limits are used to protect against market volatility and manipulation. However, they can also be used to minimize your losses, preventing you from trading too much capital. TradeStation and Scottrade may impose higher daily trading limits than Interactive Brokers and TD Ameritrade, for example.
- Margin & leverage – Choosing a cash account and rules will prevent you from borrowing any capital from your broker. However, sign up for a margin account, and you will be allowed to borrow a certain amount to leverage the trade, increasing your potential profit. Brokers will have different rules around how much margin you can access. JB and ASX rules may vary from Etrade, for example.
For further guidance, see our brokers page.
Rules For Beginners
If you’re new to the arena, following these 7 golden day trading rules can help you turn in exciting profits and avoid costly pitfalls.
1. Enter, Exit & Exit
One of the biggest mistakes novices make is not having a game plan. Don’t think about hitting the ‘enter’ key until you know when to enter and exit. Be aware, excitement can run high when you’re new to the game. However, you will quickly find yourself out of the game completely if you don’t plan your trades carefully. Employ loss regulation and risk management to minimize losses (more below).
2. Time
You’re up bright and early for the next day and you’re eager to get into office. However, one of the best trading rules to live by is to avoid the first 15 minutes when the market opens. The majority of such activity is panic trading or market orders from the previous night. Instead, use this time to watch for reversals. Even many experienced traders avoid the first 15 minutes.
3. Beware Of Margins
In the early days when you are fighting for capital, it is easy to be driven by margin. You should remember though that this is a loan. Loans you need to repay. While it can seriously increase your profits, it can also leave you with huge losses. Therefore many suggest learning how to trade well before switching to margin.
4. Demo Account
You have nothing to lose and everything to gain from starting to practice with a demo account. Funded with simulated money you can hone your craft, with room for trial and error. Many brokers offer free practice accounts and all are ideal platforms for obtaining charts, patterns, and strategies, including 15-minute trading rules.
5. Prepare to Lose
The most successful traders have gotten to where they are because they learned to lose. Losing is part of the learning process, embrace it. Having said that, learning to limit your losses is very important. See the rules around risk management below for more guidance.
6. Absorb Everything
Marty Schwartz famously said “A great businessman is like a great athlete. You have to have natural skills, but you have to train yourself how to use them. ” The best traders are never satisfied. They are always looking for that edge. This means turning to a variety of sources to improve your knowledge. You can use everything from books and video tutorials to forums and blogs. The market will change, will you change with them?
7. Evaluate Tips
It’s easy to get excited when an acquaintance tips an inspiring thought. However, unverified tips from questionable sources often lead to huge losses. As trader Jesse Livermore once said, “I know from experience that no one can give me a tip or series of tips that will make me more money than my own assessment.” Therefore, make sure you check and double-check all the tips and information that may influence your trading decisions.
For general guidance, see our tips page.
Risk Management Regulations
Day trading risk and money management rules will determine how successful your intraday trader will be. While you don’t have to follow these risk management rules, they have proven invaluable to many.
1% Risk Rule
The idea is to prevent you from trading more than you can afford. By using this technique, regardless of how wrong the trade is, you will always have more bank to fix your balance at some point.
The idea is simply that you cannot trade more than 1% of your account in one trade. So, if you have $50,000 in your account, you will trade up to $500 on one trade.
Why use it?
You need to lose 100 trades in a row to clear your entire balance. This is ideal for protecting your income during difficult market conditions, while still allowing for generous returns.
On the return side, you may worry that you won’t turn a small enough profit trade. But you sure can. If you risk 1% your expected profit should be around 1.5% – 2%. If you make several successful trades each day, those percentage points will creep up.
It is an ideal system for beginners. Even if you learn through trial and error, losses can come thick and fast. This system will get you in the game until you are a trading veteran armed with effective techniques to turn intraday profits.
Application
Using targets and stop-loss orders is the most effective way to execute the rules. Let’s say you want to buy a stock for $20 and you have $40,000 in your account. On your chart, you may see that the price recently experienced a short-term swing low at $19.90. You would place your stop-loss at $19.89, one percent below the recent low.
By stopping at your place, you can work out the number of shares you can trade without losing more than 1% of your account. So, you will do 1% of $40,000 which is $400. This is the risk of your account. Your trade risk is $0.11, the difference between your entry price and stop loss.
You then divide the risk of your account by the risk of your trade to find your position size. So, $400 / $0.11 = 3636 shares. You can round this to 3,600. You now enter your position safe in the knowledge that your maximum loss will only be 1% of your balance.
Variation
Once you have established a technique that works, you can modify your risk tolerance. You can go up to 1.5% or 2%. It is also worth noting traders with more than $100,000 in their account may want to risk less than 1% on a single trade, because a 1% loss then becomes significant.
In the end, it’s about finding a comfort point for you and that compliments your trading style.
Tax
Regional Differences
Unfortunately, there is no PDF day trading tax rules with all the answers. On the other hand, income tax rules will vary depending on where you are based and what you trade. Technology may allow you to escape the confines of your country’s borders. But be warned, there are often no tax rules, whether you live in Australia, India, or the bottom of the ocean.
Each country will impose different tax obligations. The consequences of not meeting them can be very costly. Day trading rules for the IRS will differ from those set by HMRC, for example.
To make sure you comply with the rules, you need to know what type of tax you will be paying. Is it personal income tax, capital gains tax, business tax, etc.? In addition, you will pay taxes in the state and / or abroad?
If you need more reason to investigate – you can find day trading rules around individual retirement accounts (IRAs), and other other accounts that can give you wiggle room. Therefore, you are interested in doing your homework.
For more guidance, see our tax page.
Main topic
Intraday trading rules and regulations differ depending on where you trade, how you trade and what you trade. Regulatory research can seem mundane compared to the exciting excitement of trading. However, avoiding the rules can cost you huge profits in the long run. So, before you start trading, check you in the rules of your account, in line with the financial regulations of your country, and meeting and any tax obligations.