Trading stocks after hours used to be just as risky as sitting down next to the high rollers in Vegas.
With more information available to improve your odds, after-hours trading may not be quite so risky anymore. But it can still be just as dangerous as playing blackjack with your eyes closed, and that's exactly why Jim Cramer discourages it.
As with all types of gambling, however, there can actually be a bit of upside to after-hours and (for you early birds) pre-market trading, so the Booyah Breakdown is going to explore the arguments both for and against playing in these markets.
New York Stock Exchange
are open only from 9:30 a.m. to 4 p.m. EST.
But the early and after-hours markets allow you to trade from 8 a.m. to 9:30 a.m. EST and from 4 p.m. to 6:30 p.m. EST, respectively.
Broadly speaking, these markets function in the same way as the regular market. Shares are traded between parties at an agreed-upon price. So if you make a trade in the after-hours market, the price you receive is the price that someone is willing to pay for your shares.
But you can't place a trade with your broker during those hours. Instead, you must place it through an electronic communication network, a.k.a. an ECN. So there are no humans involved.
The After-Hours Stakes
While trading before the market opens or after it closes can boost your gains, there are majorrisks, which is, again, why Cramer advises you to step back from the poker table.
The biggest pitfall is the lack of liquidity. Liquidity is the textbook term for the ability to convert stock into cash. Obviously, you need buyers and sellers to get that done. Typically, fewer buyers and sellers equates to lower liquidity.
There are fewer people engaging in pre-market and after-hours trading, so liquidity tends to be lower, which means it may be harder to find someone who wants to buy your shares at the price you're trying to sell them.
Another big problem with trading in the early or after-hours markets is that spreads between bid and ask prices can be big, making it difficult to get the price you're looking for.
That's why, if you're going to play this game, you most definitely want to place a "limitorder." With a limit order, you're instructing the ECN to buy or sell a specific number of sharesat specified (or better) price. If your price doesn't come in, there's no sale.
Let's say you want to buy a stock at $15 per share. As luck would have it, Cramer gave thestock the
"mon back" onhis "Mad Money" show, and everyone dove into the after-market to buy it. But now the stockprice has jumped to $20. Because you were smart and placed a limit order for $15 per share, however, the ECN didn't execute the trade for you and saved you from buying the stock at a puffed-up price.
If the stock doesn't fall back down to your price target, know that your order may never beexecuted. Nevertheless, this is a huge perk when you're trading in a low-volume or high-volatilityarena.
A final risk to after-hours trading is that you are attempting to play with the pros. The daytraders and large institutional investors -- like mutual funds and pensions -- tend to toil in theafter-hours markets and are very astute at manipulating stock prices in them.
Which is exactly why pre-market and after-hours trading is generally no place for the novice orlong-term investor. "If the long-term investor is buying on fundamentals, the reasons he decidedto buy the stock should still be there in the morning during regular trading hours," says AdamRitt, editor of the BetterInvesting Magazine.
The Joy of Risk
Maybe, but there's a reason people gamble - the sweet taste of the upside.
Having the ability to trade around the clock allows you to react quickly to breaking newsstories or fresh information. So if a company releases its earnings numbers after the regularmarket closes (which happens often), you could get a jump on the stock in the after-hours market.
And while volatility is a clearly a risk, you may actually find some appealing prices duringthis time.
In addition, there's clearly a convenience factor. "Many folks trade online these days anyway,so if you want to place a trade before you go to work and make sure it's executed, the early market isuseful," says Fred Ruffy, an analyst at Optionetics, an investor-education Web site.
Still, the best part about the early and after-hours markets is your ability to be a voyeur atthe poker table. Watching the price changes in the after-hours market is a great barometer of howthe regular market will react to the new information that was released after the regular trading day.
Granted, just because a stock is up 10% at 6:15 p.m. from its 4 p.m. closing price doesn'tmean its going to start the next trading day that high. But you still may see it up 5% at the 9:30a.m. open, and since you were watching the after-hours market, you know why.
So the early and after-market prices shouldn't be relied upon as accurate reflection of what astock will trade at when the next regular session opens. Yet they will help you gauge market sentiment to some degree, just as the
futures market does.
And let's face it, the ultimate goal is for people to trade at all hours, says Ruffy. So getused to it. Many U.S. companies already trade on overseas market while we're sleeping, so thetrading doesn't really stop.
The casinos stay open all night long; maybe the stock markets should too.
Tracy Byrnes is an award-winning writer specializing in tax and accounting issues. As a freelancer, she has written columns for wsj.com and the New York Post and her work has appeared in SmartMoney and on CBS MarketWatch. Prior to freelancing, she spent four years as a senior writer for TheStreet.com. Before that, she was an accountant with Ernst & Young. She has a B.A. in English and economics from Lehigh University and an M.B.A. in accounting from Rutgers University. Byrnes appreciates your feedback;
to send her an email.