Day traders attempt to make profits by opening and closing trade positions several times during a day. They usually close all of their open positions at the end of the day and don’t carry them over to the next day. In addition to stocks, the exchange traded funds (ETFs ) have emerged as another instrument of choice for day trading. They offer the diversification of a mutual fund, the high liquidity and real-time trading of a stock, and low transaction costs. A few ETFs may also qualify for tax benefits, depending upon the eligibility criteria and financial regulations. (For more, see: The Benefits Of ETF Investing and Should You Buy Stock Or An ETF?)

This article explores the top ETFs, which are suitable for day trading.

Criteria for Selection

Day trading involves buying and selling positions quickly, with attempts to make small profits by trading large volume from the multiple trades. The ETFs suitable for day trading should have high levels of liquidity enabling easy execution of the trades at fair prices. The transaction costs associated with ETF trading should be low, as frequent trading leads to high transaction costs that eat into the available profit potential. Additionally, one should also consider the bid-ask spread on the price quotes. The bid-ask spread is the difference between the buy and sell price demanded by the market participants trading a particular security. A tighter bid-ask spread indicates fair price discovery and higher liquidity.

Most ETFs that fit these three criteria are based on broader markets (like those based on popular indexes like the Standard & Poor's 500 Index or overall broader markets).

Day traders may also get high liquidity in specialized theme based ETFs, like gold or oil-based ETFs. However, such ETFs may be costly regarding transaction costs making them unsuitable for day trading. (For more, see Day-Trading Gold ETFs: Top Tips and Top Oil ETFs (XLE, AMLP, VDE, USO)).

Similarly, others like leveraged ETFs may offer high exposure (two times or three times the underlying), but they usually lack high liquidity and may come at high expense ratios. Such ETFs may not fit the day trading criteria, and are not considered for inclusion in the list of day trading.

The Top ETFs for Day Trading

1. Vanguard S&P 500 ETF (VOO): VOO tracks the popular S&P 500 Index, which represents the top 500 companies in the U.S. from diverse sectors.This ETF invests in the stocks included in the S&P 500 Index in the similar proportion to the index. It has successfully mirrored the performance of the index with a minimal tracking error. With an average daily traded volume of more than 2.6 million shares, VOO has one of the lowest expense ratios of only 0.05%, making it the favorite for day traders.

2. iShares Core S&P 500 ETF (IVV) and SPDR S&P 500 ETF Trust (SPY): IVV and SPY work exactly the same way as the above-mentioned VOO ETF. The only difference is that IVV and SPY have slightly higher expense ratios of 0.07% and 0.09%, respectively. However, IVV and SPY offers much higher levels of liquidity with average daily traded volume exceeding 5.5 million and 147 million shares, respectively.

3. Vanguard Total Stock Market ETF (VTI): VTI tracks and attempts to replicate the performance of CRSP U.S. Total Market Index. This index includes large capmid capsmall cap, and micro cap stocks that are regularly traded on the NYSE and the NASDAQ. This ETF allows a trader to bet on a larger total market covering a broader spectrum of stocks across multiple market cap sectors. With only 0.05% expense ratio and average daily trading volume exceeding 3.6 million shares, VTI makes an excellent choice for day traders.

4. Schwab US Broad Market ETF (SCHB): Another broad level market-based ETF that tracks the Dow Jones Broad Stock Market Index. The index includes the top 2,500 largest publicly traded companies in the USA. This ETF has an average daily trading volume of around a million shares and comes at the low expense ratio of 0.04% only.

5. iShares Treasury Floating Rate Bond ETF (TFLO): Day traders interested in a bond ETF will find TFLO a good and cost-effective option. This fund attempts to replicate the performance of the performance of the Barclays US Treasury Floating Rate Index.This ETF has been successful in replicating the performance of the benchmark index accurately with very low tracking error. It has an expense ratio of 0.15% but offers fee waiver of the same amount that makes the effective expense ratio as nil.

6. iShares 20+ Year Treasury Bond ETF (TLT): TLT is another bond based ETF, which provides exposure to long-term U.S. treasury security by tracking the performance of Barclays U.S. 20 Year Plus Treasury Bond Index. It offers high liquidity with more than 8 million ETF shares exchanging hands daily. It has mirrored the performance of benchmark index accurately. However, it has a comparatively higher expense ratio of 0.15%.

7. Schwab US TIPS ETF (SCHP): Worried about inflation or looking to benefit from trading on inflation-protected securities? SCHP offer a perfect fit. It tracks the performance of Barclays U.S. Treasury Inflation Protected Securities (Series-L) Index, which is a market-value weighted index of US Treasury inflation-protected securities with at least one year remaining in maturity. With around 80,000 shares trading daily and with only 0.07% expense ratio, SCHP offers a good fit for day traders.

The Bottom Line

Day trading involves high risk, as most day traders take margin based leveraged positions. Margin based leverage allows one to take a higher exposure with low trading capital. It hence becomes critical to keep the associated transaction costs low to accommodate for the occasional losses and keep the realistic profits high. Selecting the right ETFs listed as above on the above-mentioned criteria can enable a day trader higher profit potential.