Omar Bennett
The PDT rule, or Pattern Day Trader Rule, is an industry standard that applies to traders or investors who execute four or more day trades over a five-day period using a margin account. Day trading is a risky strategy where traders buy and sell the same security within a single trading day, attempting to profit from small price movements. The PDT rule requires traders to maintain a minimum equity of $25,000 in their margin accounts, which can be a combination of cash and eligible securities. If an account falls below this threshold, the trader will not be permitted to continue day trading until the account is restored to the minimum equity level.
| Characteristics | Values |
|---|---|
| Number of trades | 4 or more trades in a 5-business-day period |
| Account type | Margin account |
| Minimum equity | $25,000 |
| Trading strategy | Buying and selling the same security within a single day |
| Designation | Determined by the Financial Industry Regulatory Authority (FINRA) |
| Restrictions | If the account falls below $25,000, the trader won't be permitted to trade until the minimum equity level is restored |
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What You'll Learn
Day trading defined
Day trading is a trading strategy where an individual buys and sells (or sells and buys) the same security in a margin account on the same day. Day traders aim to profit from small price movements, and they often use margin (borrowed money) to increase leverage. Day trading can be applied to various securities, including stocks, bonds, ETFs, and options.
The Pattern Day Trader (PDT) Rule, established by the Financial Industry Regulatory Authority (FINRA) in 2001, aims to protect novice investors from significant losses. Under this rule, a pattern day trader is designated as someone who executes four or more day trades within a five-business-day period using a margin account, with a minimum equity of $25,000. This minimum equity can be a combination of cash and eligible securities.
If an account falls below the $25,000 requirement, the pattern day trader will not be permitted to continue day trading until the account is restored to this minimum equity level. The PDT rule applies to day trading in any security, including options, and once an account is flagged as a pattern day trader, it may be subject to increased scrutiny and potential restrictions.
It is important to note that individual brokerage firms may have stricter interpretations of the PDT rule or allow their investors to self-identify as day traders. Additionally, if you change your trading strategy and decide to cease day trading activities, you can contact your brokerage firm to discuss the appropriate coding of your account.
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Minimum equity requirements
The minimum equity requirements for pattern day trading are set by the Financial Industry Regulatory Authority (FINRA) and are as follows:
Pattern day traders (PDT) must maintain a minimum equity balance of $25,000 in their margin accounts prior to day trading on any given day. This minimum equity can be a combination of cash and eligible securities, but it must be in the account before any day trading can take place. If the account falls below this $25,000 requirement, the PDT will not be permitted to day trade until the account is restored to the $25,000 minimum equity level.
If a PDT's account starts the day below the minimum equity level, and they then execute a day trade, they will be restricted to liquidating trades only until the situation is addressed. In this case, brokers usually lock the account as soon as this rule is triggered, but the lockout period varies depending on the broker's guidelines.
If a PDT's account is flagged and has less than $25,000 in equity, the PDT will receive a Day Trade Minimum Equity Call, or Equity Maintenance Call. While this call does not have to be met with immediate funding, if the PDT places any more trades while under the call, their account will be restricted to closing transactions only. This means that they can close existing positions but cannot open any new ones.
It is important to note that the $25,000 minimum equity requirement is an industry standard, but individual brokerage firms may have stricter interpretations of the rules. These higher minimum requirements are often referred to as "house" requirements.
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Buying and selling the same security
Day trading is a strategy where an individual buys and sells the same security within a single trading day. This is sometimes referred to as a "round trip". Day traders often use margin, or money borrowed from a brokerage, to increase leverage. This can amplify profits but also heighten losses.
Under the Pattern Day Trader (PDT) Rule, a day trade is defined as the purchase and sale, or sale and purchase, of the same security in a margin account within a single trading day. This applies to both long and short trades and includes pre- and post-market trading. The key to determining what counts as a day trade is matching buy and sell orders. For example, if you start the day with no trades and then buy 100 shares, you have purchased 100 shares to open a new position. If you later decide to sell those 100 shares, you have executed a day trade.
The PDT Rule, established by the Financial Industry Regulatory Authority (FINRA) in 2001, is designed to protect novice investors from large losses. Under the PDT Rule, any margin account that executes four or more day trades in a five-market-day period is flagged as a pattern day trader. This designation does not necessarily carry negative consequences, but it does result in increased scrutiny of the account.
To maintain compliance with the PDT Rule, it is essential to understand what constitutes a day trade and to carefully track trading activities. If an account flagged as a pattern day trader falls below $25,000 in equity, it will receive a Day Trade Minimum Equity Call, or Equity Maintenance Call. While immediate funding is not required, placing additional day trades while under this call will restrict the account to closing transactions only. To remove the Equity Maintenance Call, the account equity must be raised above $25,000.
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Restrictions and penalties
The PDT rule was created in 2001 by the Financial Industry Regulatory Authority (FINRA) to protect novice investors from large losses. While getting flagged as a pattern day trader is not necessarily negative, it does result in increased scrutiny of the account.
If an account is flagged as a pattern day trader and has less than $25,000 in equity, it will receive a Day Trade Minimum Equity Call, or Equity Maintenance Call. While this call does not require immediate funding, placing any more day trades while under the call will restrict the account to closing transactions only. This means that while existing positions can be closed, no new ones can be opened. The Equity Maintenance Call is only removed when the account equity rises above $25,000, or the PDT flag is removed, which can only happen once.
Traders who are flagged as pattern day traders must maintain a minimum of $25,000 in their accounts and can only trade in margin accounts. This amount can be a combination of cash and eligible securities. If the trader's equity in the account drops below $25,000, they will be prohibited from making further day trades until the balance is restored.
Frequent traders who violate the pattern day trader rule may face permanent restrictions and have permanent limits placed on their brokerage accounts.
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Getting flagged as a PDT
Pattern Day Trader (PDT) is a designation determined by the Financial Industry Regulatory Authority (FINRA). It refers to traders or investors who execute four or more day trades over a five-business-day period using a margin account. The PDT designation is important because it comes with specific requirements and restrictions.
If you are flagged as a PDT, your account must maintain a minimum equity of $25,000. This amount can be a combination of cash and eligible securities, but it must be in your account prior to engaging in any day trading activities. If your account falls below this $25,000 threshold, you will not be permitted to execute any further day trades until your balance is restored to the minimum level.
To avoid being flagged as a PDT, you can predetermine your entries and exits and track when you place trades. Trades with non-marginable securities are subject to cash account rules, so you can day trade in your margin account without triggering PDT status. Additionally, understanding and following PDT rules can help you avoid restrictions on your account.
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