Characteristics of Actively Traded Stocks

1. The Two Pillars of a Tradable Stock

For an active trader, a stock isn't just a piece of a company; it's a vehicle for potential profit. To be a good vehicle, it needs two fundamental things: fuel and movement. In the stock market, these translate to liquidity and volatility.

Let's start with a foundational understanding of these two concepts.

As the article highlights, finding the right stocks isn't about getting "hot tips." It’s a systematic process of identifying stocks with specific, measurable traits. Let's dig deeper into the two most important ones.

2. Liquidity: The Ability to Trade with Ease

Liquidity is arguably the most important characteristic. It means there are enough buyers and sellers for you to enter and exit a trade quickly, at a fair price, without your own order significantly moving the stock's price. An illiquid stock is like trying to sell a rare collectible; you might have to wait a long time to find a buyer and accept a lower price.

The primary measure of liquidity is trading volume.

Key Metrics for Liquidity:

• Average Daily Volume: This tells you how many shares, on average, are traded each day. Active traders look for stocks with high average volume, often over 1 million shares, to ensure there's consistent interest.

• Relative Volume (RVOL): This is even more critical for day traders. Relative volume compares the current trading volume to the average volume. A stock with high RVOL is trading much more actively than usual, signaling that something is happening—news, an earnings report, or a surge in investor interest. This is what traders mean when they say a stock is "in play."

This image clearly shows the difference between normal and high relative volume.

High volume often precedes significant price moves, as it reflects the conviction of buyers and sellers.

3. Volatility: The Engine of Profit

While long-term investors often view volatility as risk, for an active trader, volatility is opportunity. If a stock's price doesn't move, you can't make money from it. Volatility is simply the measure of how much a stock's price fluctuates.

You want a stock that moves enough to offer profit potential but isn't so erratic that it becomes completely unpredictable.

Key Metrics for Volatility:

• Average True Range (ATR): This indicator measures the average "true range" of price movement over a specific period (typically 14 days). A stock with an ATR of $2.50, for example, moves about $2.50 between its high and low on an average day. A higher ATR means more potential price movement to capture within a day or over a few days.

• Beta: This metric measures a stock's volatility in relation to the overall market (usually the S&P 500).

  • A Beta of 1 means the stock moves in line with the market.
  • A Beta > 1 means the stock is more volatile than the market.
  • A Beta < 1 means the stock is less volatile than the market.

  Active traders often look for stocks with a Beta greater than 1, as these tend to have larger price swings.

To see how these concepts are applied in practice, let's watch a video that demonstrates how to screen for stocks using these exact criteria.

4. Other Important Characteristics

Beyond liquidity and volatility, traders use a few other criteria to refine their search for the best trading candidates.

• Price: Many traders avoid extremely cheap "penny stocks" (often under $5) because they can be easily manipulated and lack interest from large institutional investors. They also might avoid very expensive stocks (e.g., $1000+) as they require more capital to trade.
• Market Capitalization: This can influence a stock's behavior. Large-cap stocks (e.g., >$10 billion) are often more stable and liquid, while small-cap stocks (<$2 billion) can be more volatile and offer explosive moves. Some traders specialize in one or the other.
• Float: This is the number of shares available for public trading. Stocks with a low float can be very volatile because a small amount of buying or selling pressure can cause a large price move.
• Catalyst: High volume and volatility rarely happen in a vacuum. They are often driven by a catalyst—a news event like an earnings report, a new product announcement, or an FDA approval. Identifying stocks with a recent catalyst is a core part of finding stocks that are "in play."

Conclusion

You've now learned the essential ingredients that make a stock suitable for the fast-paced world of active trading. Instead of randomly picking from thousands of options, you can now apply a systematic filter to find stocks that have the potential for movement.

Key Takeaways:

• Not all stocks are suitable for active trading. The best candidates are "in play."
• The two pillars of a tradable stock are Liquidity and Volatility.
• Liquidity, measured by trading volume, ensures you can enter and exit trades easily. Relative Volume (RVOL) is key for spotting unusual interest.
• Volatility, measured by ATR and Beta, provides the price movement necessary to generate profits.
• Other factors like price, market cap, and the presence of a catalyst help you further refine your watchlist.

A Look Ahead:
Finding a stock with these characteristics is the first step. The next is knowing when to trade it. In our next lesson, we will recognize the most active trading times of the day (e.g., market open and close), because even the best stock can be untradable during quiet periods.