A Pattern Day Trader is a regulatory designation given to traders who execute four or more day trades within five business days, provided that the number of day trades is more than 6% of the total trades in the account during that period. This classification is relevant because it triggers specific regulatory requirements.
What is a Pattern Day Trader?
A Pattern Day Trader is a designation issued by the Financial Industry Regulatory Authority (FINRA) to traders who execute four or more day trades within five consecutive business days. Day trading refers to the practice of buying and selling financial instruments—such as stocks, options, or futures—within the same trading day. This classification applies to margin accounts and is governed by regulations set forth by the U.S. Securities and Exchange Commission (SEC) and FINRA.
Key Takeaways:
- A Pattern Day Trader executes four or more day trades within five consecutive business days.
- Day trading involves buying and selling financial instruments within the same trading day.
- Pattern Day Traders must maintain a minimum account balance of $25,000 in their margin accounts.
- If the account falls below the $25,000 requirement, the trader will be restricted from day trading until the balance is restored.
Understanding Pattern Day Traders
The designation of Pattern Day Trader is important because it subjects traders to certain regulatory requirements. According to FINRA rules, traders classified as Pattern Day Traders must maintain a minimum account balance of $25,000 in their margin accounts. This balance must be maintained at all times while the trader engages in day trading activities.
If the account balance falls below $25,000, the trader will be subject to certain restrictions. Specifically, the trader will be prohibited from day trading until the account is restored to the $25,000 minimum equity level. This restriction is known as a “minimum equity call” and typically requires the trader to deposit additional funds into the account to meet the requirement.
The Risks of Pattern Day Trading
Pattern Day Trading can be highly risky and may not be suitable for all investors. Day trading involves significant volatility and requires quick decision-making, which can result in substantial losses. Additionally, the use of margin amplifies both gains and losses, increasing the level of risk for Pattern Day Traders.
Furthermore, the $25,000 minimum equity requirement imposes a significant financial commitment on traders. Maintaining this balance can be challenging, especially for novice traders who may not have sufficient capital to meet the requirement.