In the equity universe, there are thousands of equities to choose from, and day traders can pick virtually any sort of stock they want. But how to choose the right stocks for intraday trading?

There are almost as many strategies as there are equities. But a few general rules do apply, as any good intraday trading tutorial will tell you.

How to Select Stocks for Intraday Trading: The Criteria

  • Rule 1: Liquidity, liquidity, liquidity. This probably is the most important characteristic of the best stocks for intraday trading. Liquid stocks trade in huge volumes, whereby larger quantities can be purchased and sold without significantly affecting their price. And since intraday trading strategies often depend on speed and precise timing, with all positions squared at the end of the day, you don't ever want to be left without a market for your shares.
  • Rule 2: Medium volatility. Although some highly experienced pros like a wild ride, most traders avoid highly volatile stocks – those whose price fluctuates violently and/or in unpredictable ways, their price changing by more than 5% in a typical day. Instead, they stick with equities that move at a more medium pace – you want the stew bubbling, but not boiling over – and, in fact, usually make their profits out of small price shifts, not big swings. Highly volatile stocks tend to be rather illiquid, too (see Rule 1).
  • Rule 3: Group followers. While there are those who specialize in contrarian plays, most traders look for equities that move in correlation with their sector and index group. This means when the index or the sector ticks upward, the individual stock's price also increases. Because they follow the expected path of their industry or category, these equities are more reliable and their movements more predictable – which makes it easier for you to time your moves.

How to Select Stocks for Intraday Trading: The Entry and Exit Strategies

Figuring out how to identify the stocks for intraday trading is only the first step to a successful intraday trading trading strategy. Figuring out how to enter and exit your positions is the second step, and it's arguably more crucial than the first. You may have picked the sweetest stock in the world, but whether you profit from that pick is all in the timing of your trades. Intraday enter-and-exit strategies are as numerous as traders themselves, but again, by sticking to certain guidelines and looking for certain intraday trading signals, you are more likely to succeed. Here are five such strategies:

1. Trade only with the current intraday trend

The market always moves in waves, and, as any surfer knows, a successful ride means going with the flow – and not bucking the tide. How does this translate into finding stocks for intraday trading? Basically, it means that during a bull run, go for stocks that can potentially rise, and when the bear is roaring, look for stocks that are likely to fall. Of course, intraday trends do not continue indefinitely, reversals do occur, but usually one or two trades, and sometimes more, can be made before that happens. And when the dominant trend shifts, begin trading with the new trend.

Isolating the trend can be the difficult part. Trendlines provide a very simple and useful entry and stop loss strategy. Figure 1 shows several short-term trends during a typical day. (For related reading on the stop loss, see A Logical Method Of Stop Placement.)

SPY with trendlines for short-term trends
Figure 1. SPY with Trendlines – 1 Minute
Source: Free Stock Charts

More trendlines can be drawn when trading in real time, for the varying degrees of each trend. Drawing in more trendlines can provide more signals and also can provide greater insight into the changing market dynamics.

2. Trade strong stocks in an uptrend, weak stocks in a downtrend

To choose the best stocks for intraday trading, most traders will find it beneficial to look at equities or ETFs that have at least a moderate-to-high correlation with the S&P 500, Dow or Nasdaq indexes, and then isolate those that are relatively weak or strong, compared to the index. This creates an opportunity for the day trader, as he or she can isolate which stocks are likely to provide a better return, given the movement of individual stocks relative to the index.

When the indexes/market futures are moving higher, traders should look to buy stocks that are moving up more aggressively than the futures. When the futures pull back, a strong stock will not pull back as much, or may not even pull back at all. These are the stocks to trade in an uptrend, as they lead the market higher and thus provide more profit potential and lower risk; smaller pullbacks mean less risk.

When the indexes/futures are dropping, short sell stocks that drop more than the market. When the futures move higher within the downtrend, a weak stock will not move up as much, or will not move up at all. Weak stocks are less risky when in a "short" position and provide great profit potential when the market is falling. (For more on short selling, see Short Interest: What It Tells Us.)

The stocks and ETFs that are stronger or weaker than the market can change daily, although certain sectors may be relatively strong or weak for weeks at a time.

Figure 2 shows SPY, the S&P 500 ETF, compared to XOP, the Oil Exploration and Production ETF. XOP (blue line) was relatively strong compared to the SPY, especially on market rallies. Overall the market moved higher throughout the day, and because XOP had such large gains on rallies, it was a market leader and outperformed SPY on a relative basis.

XOP was a market leader and outperformed SPY relatively.
Figure 2. SPY vs. XOP – 2 Minute, August 31, 2011
Source: Free Stock Charts

3. Be patient – wait for the pullback

Trendlines are an approximate visual guide to where market waves in price will begin and end. Therefore, in selecting stocks for intraday trading, we can use a trendline for early entry into the next price wave in the direction of the trend.

When entering a long position, buy after the price moves down toward the trendline and then moves back higher. To draw the trend line, a price low and then a higher price low will be needed. The line is drawn connecting these two points and then extended out to the right. Figure 3 shows how XLF, the SPDR Financial Sector ETF, bounced off its trendline twice, providing two potential trade opportunities by being patient and waiting for the pullback in the trendline to occur. (For more on trendlines, see Trade Broken Trendlines Without Going Broke.)

Draw a trendline between the two consecutive price lows. Trading opportunities occur during bounces from the line.
Figure 3. XLF - 1 Minute Chart, November 4, 2011
Source: Free Stock Charts

Short selling in a downtrend would be similar. Wait until the price moves up the downward sloping trendline, then when the stock begins to move back down, you use this as a trading signal to make your entry.

By being patient, these two long trades provide a very low-risk entry, as the purchase is made close to the stop level, which could be several cents below the trendline.

4. Gather ye profits while ye may

Let's not forget the the second half of intraday enter and exit strategies: knowing when to leave. Obviously, we want to exit before a correction occurs. Day traders have limited time to capture profits and must therefore spend as little time as possible in trades that are losing money or reducing "paper profit" to a substantial degree. When a trade is entered, if it becomes profitable, but the profit is unrealized, it is a called a "paper profit." Day traders want to turn paper profits into real profits before the trend reverses on them. (For related reading, see 3 Reasons Not To Trade Range Breakouts.)

There are two very simple rules that can be used to take profits when trading with trends.

  • In an uptrend or long position, take profits at or slightly above the former price high in the current trend.
  • In a downtrend or short position, take profits at or slightly below the former price low in the current trend.

Figure 4 shows the same XLF chart exemplified earlier. This time entries and exits are marked. The chart shows that as the trend continues higher the price pushes through past highs, which provide an exit for each respective long position taken. Since markets do make double tops, or the price may meet resistance at an old price high, profits can be taken at the same price as the former high, as well. The same method can be applied to downtrends; profits are taken at or slightly below the prior price low in the trend.

In uptrends sell when the price high is slightly above the prior trend and enter. In downtrends sell at slightly below the prior low.
Figure 4. XLF – 1 Minute Chart, November 4, 2011-11-06
Source: Free Stock Charts

5. When the market stalls, don't play

Markets don't always trend. Sometimes, intraday trends reverse so often that an overriding direction is hard to establish. If major highs and lows are not being made, make sure the intraday movements, which will be within a range, are large enough for the potential reward to exceed the risk.

If there are periods where prices move in a horizontal price range, what is your intraday entry and exit strategy? To put it bluntly: none. Step aside and don't trade.

Alternatively, switch to a range-bound trading type strategy that identifies stocks trading in channels. What's happening is that the overall trend does not exist, but is actually a range, or channel. A range trader buys stocks at the lower level of support (bottom of the channel) and sells them near resistance (top of the channel).

Wait for the price to reach near the high of the range and then turn back lower. This will provide a low-risk entry and the trade is exited at, or near, the low of the range. The same method can be applied to long entries within a range. You may have to repeat the process of buying at support and selling at resistance many times until the stock breaks out of the channel. But again, when low-risk entries are not present or clearly visible, step aside and do not trade.

The Bottom Line

Identifying the right stocks for Intraday trading involves isolating the current market trend from surrounding noise and then capitalizing on that trend. Certain features – liquidity, medium volatility and correlation with their sectors and indices – characterize the best intraday trading stocks, but it's also important to apply the right entry and exit strategies, derived from studying trendlines and charting market waves. There is no one best chart for intraday trading, and no single intraday trading signal will punch your ticket to riches. That's why shrewd players have a variety of trading strategies – including the one that says "don't play today."

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