What Is After-Hours Trading?

UTC by Osaemezu Ogwu · 12 min read
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Photo: Depositphotos
Photo: Depositphotos

Here’s a complete guide that will provide you with everything you need to gain basic knowledge when it comes to after-hours trading.

Trading on stock exchanges has a set time it occurs, and this time frame is referred to as the trading session. There are two trading sessions each day, where the main one occurs at daytime and signifies one business day. Alternatively, the second session begins after the first one closes. This session is known as after-hours trading and it differs significantly from the main one.

What Is After-Hours Trading?

An investor’s activity of either buying or selling an asset after the close of the main trading hours is referred to as after-hours trading. This trading activity occurs after the main session and usually after 4 pm.

Accordingly, trading activities that occur between 4 pm and 8 pm EST can be referred to as after-hours trading. In contrast, the main trading session takes place between 9:30 am and 4 pm EST as it is the case on Nasdaq.

What’s more, the emergence of after-hours trading was after the launch of electronic communication networks (ECNs). These are systems that connect traders with brokerages. And the connection allows buyers and sellers to invest in securities from their location without relying on an exchange as a middleman. This means potential buyers are paired with sellers using ECNs instead of the traditional exchanges.

How After-Hours Trading Differs from Regular Hour Trading

Asides from the difference in the trading schedule, there’s also a difference in the trading volume. The second trading session has a lower volume compared to the major market. The reason can be tied to the number of traders is lesser whereas more wealthy investors usually dive into the market during regular hours.

Nonetheless, major news springing up within this trading session can spike its trading volume. The news may be related to the company’s stock that is being traded. For instance, news pertaining to an increase or decrease in a company’s earnings may cause investors to buy or sell its stock. And even though the volume could spike, it slowly thins out after some time within the session. In this case, the volume may decline by 6 pm, hours after the news began to trend.

Who Can Trade in After-Hours Trading?

Institutional and retail investors are the participants in after-hours trading. This goes contrary to decades ago when wealthy individuals and companies were the major traders. However, things changed around 1999 due to the availability of ECNs to retail investors. ECNs enabled small investors to trade electronically and made wealthy investors anonymous during trading.

What’s more, members of FINRA can enter quotations at their own freewill during extended trading hours. These members are, however, required to adhere to the limit order protection as well as the display rules.

Today, extended trading has gained popularity and different classes of investors are its active traders. There has also been an increase in the number of brokers who support this trading session. A popular broker is Fidelity. Based on these changes, there are speculations that a day will come where investors will access the stock market every hour of the day and every day of the week.

What is Post-Market and Pre-Market Trading?

Pre-market and post-market are two major parts of the extended trading market since they take place before and after the main market. In the post-market trading session, trading activity begins between 4 pm and 8pm. Whereas, pre-market trading starts before 9:30am. Consequently, the latter starts even before regular trading begins. It is, however, worth noting that when pre-market trading opens is solely dependent on the exchange used.

In line with that, the volume that is traded in either of these markets is considerably lower than the main market. For instance, billions may be traded in the regular hours whereas only a small part of the same volume is traded in either market.

There are, however, advantages of trading both the post and pre markets. Imagine a company reporting a decline in its quarterly income. It could impact negatively its stock price if the news was released in the regular trading hours. This would mean a misleading representation of the true value of its stock price. Nonetheless, the same news can be released when the main trading market has closed. This means after-hours market traders would make the most of the news to savor their holdings.

The same can be said about economic indicators that are publicized around 8.30 am. This is around the same time pre-market trading takes place. The news can also set the pace as to how the asset’s price will move for the day.

Benefits of After-Hours Trading

Some benefits of after-hours trading include:

Convenience

After-hours trading gives investors the flexibility of trading after the main hours. A person can enter their trades if they have been working all day and had very little time to monitor their trades especially when the market needs some level of time dedication.

There’s also no need to struggle to manage their task for the day and also keep a close eye on the market since they can do so conveniently when they’re less engaged. Therefore, there is some level of convenience that may be absent in the regular trading session.

Earn from Fresh News

Fresh news such as reports on a company’s acquisition, earnings, etc, can emerge after the closing of the main trading session. As such, a trader in the extended market can dive in quickly to take advantage of price movements due to the news. This is carried out even before the opening of the main session where most traders would have emerged.

It is also worth pointing out that some breaking news may not have a long-lasting effect. Hence, it is important to take advantage of them immediately and not wait until the regular trading the next day. And if these news began to trend after the closing bell for the regular hour sounded, investors can still make a move.

Pricing Opportunities

Price may fluctuate more easily in this market, however, it is possible to get mouthwatering prices in this session. It may be low enough to buy in, or even very high to sell. For instance, a stock price may dip significantly after the main session has closed only to spike at the opening of the main session. Investors who were able to make purchases could reap great profit.

There are also imbalances that may have occurred in the regular market which an investor can take advantage of in the after-hours market. Here, more stocks being supplied to the market during the last minutes of the regular trading day can lead to an imbalance in supply and demand.

It is also possible for an asset’s price to decline further due to errors on the part of a trader while entering orders hurriedly towards the close of the day. While these downtrends may be corrected in the after-hours markets, it means investors in this session would’ve taken advantage of the short-lived dip.

Risks Connected with After-Hours Trading

There’s the potential to reap immense profits on one hand, and there are risks associated with after-hours trading, on the other hand. As such, investors looking to trade in this session have to be wary of these risks. Some of these risks include:

Lower Liquidity

More traders in the main trading hours means that shares can easily be exchanged for cash. This is as a result of the high demand and supply of stocks. The same cannot be said about an extended hour trading. With fewer investors, the trading volume of an investor’s stock might be low thereby making it challenging to liquidate their shares. There are also cases where certain stocks are untradeable at the after-hours market.

Volatility

The level of volatility in the after-hours market is higher since the market is thinly traded. In this case, the price moves between lows and highs more frequently than in a regular market. It would mean a higher potential for losses to occur.

Wide Spreads

Wide spreads are often evident in the extended trading session. These wide spreads occur between the bidding and asking price, and it can be attributed to the lower trading volume. Consequently, there’s the potential for an investor’s order not to be executed at a favorable price.

Unstable Prices

There may be disparities in the price of a stock traded at the regular hours and those traded at the after-hours session. Here, the same stock that was traded at extended hours may not open at the same price at the start of the regular trading the following day.

Stuck Trades

The technology used in after-hours trading may tend to slow down or delay thereby causing trades not to be executed. Although these lags can also occur in the main trading hours, there may be a higher level of occurrence in extended trading markets.

For example, orders to modify or terminate a trade may not be fulfilled. And given that a trader can only access the limit orders, there’s the possibility of a partial fill or non-execution of the trade. If the provision was made for a fill or kill option, it would have ensured that the trade is executed each time.

In addition, there are after-hour trades that a brokerage firm routes to the electronic trading system. A computer issue at the firm could delay the transfer of orders to the system. It may require an investor to contact their broker to resolve the issue.

Stronger Competition for Retail Investors

Retail and institutional investors have access to this trading session, but the former has to compete with large investors that have a huge capital to invest. The reason is, rich investors have higher access to resources to facilitate their trade compared to small investors. Much more, there are cases where institutional investors employ the services of a professional trader to help them trade.

Limit Order Bias

There are electronic trading systems that support only limit orders. These orders specify a price the system must sell or buy at and not less. As such, a buyer does not pay more than the price they had inputted and neither does a seller exchange their shares for less. In the same vein, if the market exceeds or is below the inputted price, the buy or sell order is not executed.

Accordingly, it is important for traders to ascertain if non-executed orders in the extended trading session will be canceled or moved to the regular trading hours once the market opens. It is also important to ask brokers if orders placed in the main session can be moved to the after-hours trading.

A real-life scenario of the risk of after-hours trading is when a trader who intends to sell their shares at $200 may have the highest bidder pricing at $190. The trader can either sell at that rate or wait until another person is ready to bid higher. Waiting longer may cause their trades to be partially filled or not filled at all. When it comes to the latter, such an order would be canceled at the end of the trading session.

Limitations of After-Hours Market

Compared to the main market trading, after-hours trading has certain limitations.

Limit orders are allowed.

  • Trades are carried out on an electronic market instead of a stock exchange
  • A good number of securities listed on NASDAQ are tradeable, unlike the main market which supports different types.

How After-Hours Trading Affects Stock Prices

The operation of the after-hours market is similar to the main market. Here, what an investor gets for their shares, is what they are ready to sell at and at a price the buyer opted to pay.

Despite this, higher volatility, trading volume, etc. in the extended hour markets can impact on the price of stock. As such, what a trader receives after selling shares is determined by these factors. Accordingly, it is often advisable to use a limit order for stocks purchased or sold after the main trading hours.

Over and above that, fluctuations in price in the extended trading market has a similar impact on a stock as it would in a regular market. For instance, a stock price that increases by $1 in the later market, would be equivalent to the same $1 increment in the regular market.

To that effect, a main market investor who purchases a stock worth $50, and it declines by $2 would’ve made a loss of $2 in the regular market, thereby ending up with $48. However, if the stock surges by $3 in the extended market, they would’ve made a profit of $1 per share, and totaling $51.

And most importantly, a stock’s price in the extended market may open at a different price in the regular market. If the increment in price was as a result of news pertaining to a company’s increase in sales, pre-market traders would’ve already sold immediately thereby driving down the asset’s price lower than what it was priced at in the after-hours market.

Consequently, fluctuation in prices in the second market session gives an insight into how the market performs with breaking news after the close of the regular market. It may give an insight into what the price the stock may open the next day. Despite this, the more volatile nature of the extended market may not always be used as a yardstick to determine the performance of the main market on a new opening day.

Extended Hours Trading Strategies

Several trading strategies are employed in after-hours trading sessions. Each differs based on the strategy that is employed and their level of risk. Accordingly, some extended hours of strategies are:

Arbitrage

If an acquisition is announced after the close of the regular market, it could present an arbitrage opportunity. An investor may dive in to purchase the acquired company’s stock while shorting the acquirer. The aim is to profit from the disparity between the purchase and marker prices.

Gap Trading

Gaps often occur in after-hours trading, and some traders use this opportunity to profit. There is also a strategy of fading gaps that may occur during the open of the main session.

Conclusion

After-hours trading offers retail and institutional investors the opportunity to take advantage of breaking news to make profit or curb losses. Investors can also trade at their convenience and look forward to sharp spikes and dips in a stock’s price. Nonetheless, its high volatility, low liquidity, low trading volume, amongst others makes it needful for new and existing investors to trade with caution.

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