Extended trading hours let investors act quickly, as earnings reports and press releases all tend to be released in the hours before and after the market is actually open.
Extended-hours trading, which used to solely be available to big institutional investors and a small number of retail investors, is being made more available by retail brokerages, most recently Robinhood (HOOD).
While giving more retail traders more access during these hours gives more people the chance to trade outside of the six-and-a-half hours the market is open each day and can be lucrative for the investing platform – it also opens the door to a ton of volatility that many-to-most retail investors ought to avoid on an average day.
Extend Trading Hours
Extended trading hours can be found in two forms: pre-market trading and after-hours trading. Pre-market goes from 4 a.m. to 9:30 a.m. ET, while after-hours trades from 4 p.m. to 8:00 p.m. ET.
On Robinhood, retail investors can trade during pre-market between the hours of 7:00 a.m. and 9:30 a.m. ET and after market close between the hours of 4:00 and 8 p.m. ET.
This means investors can react in real time to earnings reports and other company news as companies tend to publish those either before market open or after market close.
While this is certainly presents a new opportunity for retail investors, extended trading hours could also be a retailer investor’s worst nightmare.
The SEC lists eight risks that are associated with after-hours trading that investors should be familiar with before trading during these risky hours.
Lack of Liquidity
In penny-stock trading and with smaller cryptos, a lack of liquidity creates a very volatile market. This isn’t usually a problem with a lot of stock trading, but it can cause a number of downstream effects that I will mention below. A lack of liquidity means that there isn’t necessarily going to be a buyer or seller for the stock, as the SEC notes, some stocks don’t trade at all during extended hours.
In cryptos and penny stocks, this is where various kinds of price manipulation, including some fraud and scams, comes into play. Now, you likely won’t necessarily see those activities in the stock market, at least not to the extent of penny stocks and cryptos, but it is worth noting that the trading dynamics during extended hours is rather similar to that of penny stocks and cryptos. If you would shy away from either of those investments, then you might want to stick to trading during market hours.
Larger Quote Spreads
The difference between the bid from the buyer and the ask by the seller, known as the spread, can get much wider during extended trading hours. This is one of the knock-on effects of the low liquidity mentioned above.
During normal trading hours, the price you see is, for the most part, very close to the price you get. But during extended trading, the price of the last sale can be significantly different from either the current bid or ask.
Here’s where retailer traders can shoot themselves in the foot, if they aren’t careful and where extended trading hours can get lucrative for Robinhood.
These wide spreads mean the investor can get stuck paying more than they wanted for the stock. It also means that for traders looking to quickly trade into and out of positions, their sales prices may not be very good either. This money lost to trading costs is known as “slippage”?
Robinhood and other brokerages and market makers make money off of the spread between the bid and the ask, meaning, a wider spread means a larger profit margin on that particular trade.
Price Volatility & Uncertain Prices
Similar to the large spreads, the SEC warns of high price volatility and uncertainty in those prices.
As noted before, low volume creates a greater fluctuation in prices. Further, the immediate reaction to a news or earnings report by the early morning or late afternoon traders might not reflect the sentiment of the market as a whole.
Also, those earnings press releases are typically followed by a conference call that provides more details and context. Frequently the market’s initial reaction will reverse after traders get this extra information.
Bias Toward Limit Orders
The SEC also noted that there is a preference for limit orders, which is basically just when you say I want to buy X stock at Y price in Z quantity. If the price deviates away from your ask, well, you just won’t get that stock.
With this bias in mind, consider Robinhood’s own procedures for this. When you place a market order, it will be placed automatically as a limit order set at 5% above the last traded price (5% lower for a sale).
This creates an opportunity for institutions to game retailers as they can easily just set an asking price 5% above the current price, and if it sells it sells. They could exclude stocks that they for whatever reason anticipate will actually move higher by more than 5% during that session, but in most circumstances, they could just collect the 5% and buy it back at open when it pares some of those gains.
So your move to try to get a better price could just ensure that you pay a 5% premium to institutions.
Competition with Professional Traders
Now back to that bit about being up against institutional investors.
The SEC notes how the competition is less than fair during these hours as large institutions simply have access to information and technology that we retail investors don’t. From getting information quicker to having troves of employees parsing through a report giving their opinions (compared to you trying to make sense of the report on your own), institutional investors out have a bigger advantage during these hours than regular market hours.
As far as the last warning, all you really need to understand is that extend hours trading adds a layer of breakable tech to your trade.
Your trade gets routed from your broker to an electronic trading system. That extra step means one more breakable piece. So really, what you’d want to take away from here is that you can’t place the order and then just step away from your screen. Its important to watch to make sure it executes.
While Robinhood says extended-hours trading gives busy people more chances to trade outside of what may be normal work hours, these are not exactly the best hours to be trading for retail investors looking to actually make money.
The wider spreads are certainly good for Robinhood, but most retail investors would be better off setting limit orders to be executed during normal daytime trading hours and leaving the free for all of the after hours sessions to the professionals.
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