Why You Should Love Early-Bird Trading
You’ve probably heard the saying, “the early bird catches the most worms.” What if it’s true?
Sure you are a day trader, not a bird; but we can learn a lot from birds. Today I am going to talk to you about a trading strategy that involves digging for worms whilst everyone else is waiting for prey that, in actual fact, rarely shows up.
I call it the earl-bird trading strategy and it involves capitalizing on market movement in the first hour of trading. I don’t see a lot of people teaching this – possibly because it can be some damn profitable – but I am lifting the lid, especially for those you discovering day trading and penny stocks for the first time.
The Pattern That Most Won’t See
The day trading community is now so vibrant that it has its own community of researchers conducting all sorts of studies. One conclusion arrived at by researchers is that trading activity is highest in two distinct periods of the trading day, namely the first 60 minutes and the last 60 minutes.
The last 60 minutes is widely known as power hour, but it’s the first hour that packs the biggest punch in terms of trading activity and potential volatility. You want both of these in any trade to really maximize your day trading returns in penny stocks and other types of securities.
This now established pattern of trading activity is the basis for my early-bird strategy and once you see the guts of how it works you won’t look at day trading the same way again. Let’s get into it.
60 Minutes and the Liquidity Bubble
In another one of my many articles on day trading and penny stocks, I go into some detail about liquidity and liquidity timing.
As you may already know, you can’t effectively enter a trade unless there is enough volume. The market has to be buzzing with activity or a particular stock and this is usually reflected in heavy volume sustaining the market for any one stock. Conversely you can’t exit a trade effectively unless there is liquidity at play – in other words, you need enough buyers in the market once you’ve planned your exit strategy as a seller. This heavy volume required for buying and selling occurs in the first hour of trading. From here it’s a matter of picking your spot as it were, and executing your trades. You can do this over a number of different timeframes (all within the first hour, of course). Let’s look at the first 5 minutes to see how things play out in this crucial first window.
The Early-Bird 5 Minutes
In the US the markets open at 9 AM. Immediately after opening traders of all persuasion dive into the markets and execute their trading strategies on their particular stocks. A lot of this execution occurs within the first 5 minutes of trading and this window is considered a very popular one for executing trades.
The 5 minute window derives its popularity from what are called “gap-ups.” Specifically terms the morning gap – a stock can gap up or down – the term is based on the trading activity that occurs in a particular security overnight or in the premarket hours before the market opens. The morning gap also gets its definition from the influence of overnight releases – either government data, company or industry specific news.
Essentially this trading activity and or news is a like a dam that’s dealing with more water than capacity. Eventually when the market opens the dam bursts and the price of stock goes either to up, depending on whether the early trading activity involved heavy demand; or down, depending on whether premarket and overnight traders were getting rid (sell-off) of a particular stock.
Gap ups, then’ provide the high volatility needed in order to make quick potential gains. This high volatility also feeds into heavy volume which makes it more likely that once you enter into a sock, you’ll be able to unload your position without much little worry.
Does the 5-mionute window mean that you cannot take advantage of trades at say, 9:15 AM? Not exactly.
But there is a general quieting-down that takes place after the first 5 minutes. Day traders after this adopt a watch and see approach in order to establish where the pattern of movement will go next.
This brings us to the next window, the 30 minutes leading up to 10 AM.
The Good 30
The 30 minutes up to 10 AM is another important window that the savvy day trader can exploit for solid gain potential. At this stage of the day’s trading, gap ups have leveled out themselves and traders and the market generally is settling down into a pattern of movement.
A good number of day traders start their day trading at 9:30 AM to avoid gap ups (understandable since they can go both ways). This rush of trading therefore provides another round of high volatility and heavy volume upon which you can build strong foundations for trading profits. At this stage there is enough liquidity in a stock for you to make good bets using sound stop loss and limit strategies.
A word of caution though; pushing your luck beyond this 60 minute window can be bad – very bad. There are particularly choppy waters between 11 AM – 12 PM. It’s not scientific, but the general consensus is that during this hour liquidity tends to dry up and there is a general lull in activity among day traders in penny stocks and other securities. One possible reason for this is that the first 60 minutes has been thoroughly exploited for profits and most day traders have closed out their positions. As a rule, then, I recommend to my students that they avoid 11 – 12.
Ultimately you will eventually find your sweet spot via your own nose. But please use this early bird strategy to establish a solid long term day trading philosophy. The truth is you can make the majority of your day trading profits in this first hour of day trading penny stocks. Many full-time day traders do it and I’ve seen where it can deliver consistent returns for those day traders patient enough to understand the dynamics of these first 60 minutes.