Trading 101
02/23/2021
Learn the basics of trading with the Trading 101 provided by Ticker Tocker!
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What is a stock?
Also known as ‘equity’, a stock is a security that represents the ownership of a fraction of a corporation.
But why do corporations sell stock/shares and why do people purchase them?
The simple answer is money.
Corporations sell shares in order to raise more money to continue operating their businesses while the average person buys stock in order to invest or trade. Although investing and trading seem like they're identical, they are a bit different. Investing involves buying stocks and holding them for long periods of time while trading involves buy/selling for shorter periods of time.
When learning about trading, the first question most people would ask is, where/how do I start? Getting someone setup to trade is simple.
The difficult part is teaching someone to trade properly. Trading is not something to rush into. Knowledge is power and therefore you should learn before you even think about risking your money.
Buying and Shorting
The act of buying and selling is self-explanatory.
When you purchase a stock, you are in a long position. When you’re long, you want the price to go up so you can sell and make a profit. The difference between the price you sold and the price you purchased is the amount you made (or lost).
Easy enough right?
Shorting a stock is where it gets a bit more complicated.
As mentioned above, when you buy, you want the price to go up. Shorting is the opposite. You enter a short position when you think the price of a stock is going to drop.
After you buy stock, you own actual shares. If you short stock, you are borrowing shares.
Let’s say you short 100 shares of XYZ at $130 per share. In order to have entered this short position, it means you sold 100 shares (which you borrowed) to another investor.
Your total position is technically –100 shares of XYZ while you are short. Now the price of XYZ drops to $120 and you want to take profit.
Just as you sell a position you bought, the proper term to exit a short position is cover. Let’s say you cover your short position at $120. You now made $10 profit per share ($130-$120=$10).
Bid and Ask
Now that you have the hang of buying and shorting, let’s take a small step back to discuss bid/ask.
•The bid price is the maximum price that a buyer is willing to pay.
•The ask price is the minimum price that a seller is willing to take.
Why does this matter?
I would consider bid/ask ask the supply/demand of the trading world.
You can’t sell if there are no buyers and you can’t buy if there are no sellers. The bid is someone looking to buy and the ask is someone looking to sell. Luckily for most medium to big named stocks, there are always people buying and selling.
Does this mean bid/ask isn’t important? Not at all!
Let’s say we buy a share of XYZ for $130 and the ask/offer is at $130.10.
We cannot sell our share for $200 right away because the ask/offer is $130.10. If we were to sell at the ask/offer, we would only make 10 cents profit ($130.10 - $130 = $0.10)
ORDER TYPES
In the previous example, I mentioned we couldn’t sell our XYZ right away at $200 due to the ask/offer. Although this is the case, it doesn’t mean we can’t place an order to sell our XYZ if the price eventually hits $200.
This is where order types come into play.
The 2 most commonly used order types are market and limit orders.
Learn more about other order types:
Take Profit/ Stop Loss Orders>>>
Market orders are orders to buy or sell at the current bid/ask price.
Limit orders are orders to buy or sell at a specific price
When placing limit orders, you must specify an expiration. The most common being EOD or GTC.
EOD: End of Day
(Also known as Good for Day, Day order, etc)
An EOD order will cancel the order at the close of the market if the order did not fill.
GTC: Good till Canceled
A GTC order will keep the order active until you manually cancel the order yourself. You now have a grasp on the most common order types besides for one!
RISK MANAGEMENT
In my opinion, the most important type of orders are stop orders. The 2 most commonly used stop order types are stop market/loss and stop limit orders.
The purpose of stop orders are to limit your risk.
Let’s create a couple scenarios to get a better understanding.
The Objective:
•Buy XYZ at $130
•Make $10 profit, but only risk $2
Scenario 1:
•Buy XYZ at $130
•Place a limit order to sell at $140 for a potential
profit of $10
•Place a stop market order at $128
Stop Market: When the price hits $128, the order will execute at the current ask/offer.
Scenario 2:
•Buy XYZ at $130
•Place a limit order to sell at $140 for a potential
profit of $10
•Place a stop limit order with a stop price of $127.50 and a limit price of $128
Stop Limit: When placing a stop limit, you have to specify a stop price and a limit price. The stop price works as the trigger while the limit price is the exact price you want to buy/sell. Let’s say the price of XYZ began to drop. If the price drops to $127.50 or lower, our order will trigger but will only exit the position at the limit price of $128.
While a stop market order will exit the position no matter what, stop limits will not. With stop limits, there is a slight risk. If the price drops/rises very quickly, there’s a chance that you do not fill or only fill partially.
If we break down stop orders, they are technically the same as a buy/sell orders.
•If you’re in a long position, you place a stop lower than where you got long. If the stop order executes, all you are doing is selling your position at a price lower than where you bought.
•If you’re in a short position, you place a stop at a price higher than where you got short. If the stop order executes, all you are doing is buying at a price higher than where you shorted.
So why is this all important? How does this limit risk?
The scenario above mentioned buying XYZ at $130 with a $128 stop. If there is no stop, you are technically risking the whole $130 versus the $2 risk with a stop order.
Let’s reverse the scenario into a short position:
Short XYZ at $130 with a $132 stop.
If there is no stop, you have INFINITE risk versus the $2 risk with a stop order. (The risk is infinite because the price can keep going up)
Let's break down the previous scenarios to get an even better understanding of risk management.
•Buy XYZ at $130
•Place a limit order to sell at $140 for a potential
profit of $10
•Place a stop market or limit order at $128
Without a stop our risk/reward ratio is 13:1.
We are risking $130 in order to make $10.
With the stop, our risk/reward ratio is 1:5.
We are risking $2 in order to make $10
Ideally, you would want a 1:1 ratio or better when it comes to risk management. Any worse than 1:1 would mean you are willing to lose more than you would gain.
We don't recommend that...
THE ETC
Although not very important for beginners,
order duration can become more important as you gain experience. You can identify your trading style by your order duration and therefore get a better feel of what type of trader you want to become.
Examples:
•Scalp Traders
•Day Traders
•Swing Traders
•Position Traders
You don’t have to adhere to just one, but many traders have their preferences.
Another important part of figuring out what type of trader you are is the asset class you trade. To keep things at a beginner level, we based everything in this E-Book around Equities. You can also trade Futures, ETFs, etc.
There is so much more to learn, but do not fret! You’re off to a great start. We hope we were able to guide you in the right direction.
You can also get to know more details regarding trading via WEBULL Help Center: https://www.webull.com/hc/categories/type10-Trading
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