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What Is Premarket Trading, and How Does It Work?

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SmartAsset: What Is Premarket Trading, and How Does It Work?

Although the stock market and exchanges technically have hours that they operate within, you can still trade before things open up. This is called premarket trading, and it allows investors to buy and sell stocks before official market hours. A major benefit of this trading method is it lets investors react to off-hour news and events. However, a limited number of buyers and volatile prices can make premarket trading a bit risky for novice investors.

financial advisor can help you answer questions about premarket trading and other investments for your portfolio needs and goals.

What Is Premarket Trading?

U.S. securities markets like the New York Stock Exchange (NYSE) are open for regular trading from 9:30 a.m. to 4 p.m. Eastern Standard Time (EST). However, traders can also buy and sell securities on electronic exchanges before the regular trading day begins. These electronic exchanges (also called electronic communication networks, or ECNs) don’t have physical locations. In other words, buyers and sellers connect over a digital network.

NYSE Arca is one such ECN. It was created when the NYSE merged with one of the early ECNs. Another ECN, Instinet, traces its beginning to the late 1960s. ECNs permit premarket trading during different hours. Some electronic exchanges accommodate trading as early as 4 a.m. EST. However, most premarket trading in the U.S. takes place from 8 a.m. to 9:30 a.m. EST.

Premarket trading is a fairly new development. In 1991, the NYSE responded to around-the-clock global trading by allowing trading after regular market hours.

Since then, computerized international trading has become increasingly common and the exchanges have extended trading beyond market hours. Today, extended-hours trading in U.S. markets can take place any time between 4 a.m. EST and the opening bell for regular market hours at 9:30 a.m. EST.

Trading can also take place after regular markets close. After-hours trading generally occurs from 4 p.m. to 6:30 p.m. EST. However, after-hours trading may continue until the next morning on international exchanges.

How Premarket Trading Works

If you’re wondering who can take advantage of premarket trading, it’s really just about anyone. While institutional and high-net-worth individual investors most commonly trade before the market opens, technically anyone can do it.

Some investors monitor premarket trading to see where the market and individual securities are going when standard trading time starts. Changes in prices and trading volumes can foreshadow the rest of the day’s market events.

Traders also use premarket trading to try to get ahead of market reactions to breaking news. Overseas events, political instability, and other factors can affect markets or individual securities.

For instance, a corporation may release an earnings announcement after the market closes. If the earnings news is considerably different from expectations, this could cause the stock to rise or fall the next trading day. A premarket trader might attempt to buy or sell early before the retail market can react to the news.

Other events that might trigger premarket interest could include a court ruling in a lawsuit or a change in regulations. If an influential analyst downgrades or upgrades a stock, that also can encourage premarket traders.

Risks Associated With Premarket Trading

SmartAsset: What Is Premarket Trading, and How Does It Work?

There isn’t much benefit to trading before 8 a.m. EST, but even trading at that hour can be risky. Trading may increase during that time, but news and even rumor can broaden the gap between bid and ask prices for stocks.

As an example, stocks like GameStop Corp. (GME) and AMC Entertainment Holdings Inc. (AMC) were widely covered in the news at the beginning of 2021 after individual investors organized by popular Reddit message boards drove up prices.

This forced traders who had shorted the stock, or betted that the price of those stocks would fall, to buy it so that they could avoid taking considerable losses on their short positions. As a result, a short squeeze was created, adding to the frenzy to buy more stock and driving up prices even further.

Now, investors are seeing these prices drop as squeeze trades lose momentum. Experts caution investors to be careful when trading stock during short squeezes, and that volatile prices can be risky for beginners.

You should keep in mind that prices can be far more volatile than usual in premarket trading. Limited volume can make them rise and fall more rapidly and steeply than usual. And traders used to more moderate trading could take significant losses from rapid premarket price changes.

Even worse, prices of stocks traded during premarket hours may not reflect those shares’ prices during regular hours. Premarket trends can be deceptive. Even when stock prices appear to be rising during before-hours trading, they may drop sharply at the opening bell.

Since fewer trades occur in premarket trading, it could be tough to find a buyer or seller. This makes executing trades and determining prices difficult.

Any premarket pricing trends should be taken lightly. Typically, only the most experienced traders should attempt trading before standard market hours.

Differences Between Premarket Trading and Standard Trading

Competition is more intense in the premarket hours because relatively few individual investors trade then. That can put individual investors at a significant disadvantage with professional traders, who have access to more information.

You may not be able to complete a trade with another investor if you are on different, incompatible ECNs. Meanwhile, a computer delay at your brokerage can slow a trade or block it altogether.

Generally speaking, premarket trading operates under different rules than regular trading. Different ECNs and brokerages often have different rules for premarket trading, so you may want to compare and contrast them.

Limit orders are common among brokerage firms that accommodate premarket trading. With a limit order in place, trades only go through when the stock reaches the limit price or higher.

Time limits are also common in the pre-market. Time limited orders may be cancelled if not executed during premarket trading. Orders entered during premarket trading may be executed when regular trading hours begins. Also, orders entered during the regular trading day may be executed during after-hours or premarket trading.

Bottom Line

SmartAsset: What Is Premarket Trading, and How Does It Work?

Premarket trading can represent an opportunity for experienced and sophisticated investors. It’s also much riskier than trading during regular hours. For this reason, it’s more common for investors to watch premarket trading action than for them to participate in it.

Trading before the market opens will likely place individual investors in direct competition with professional investors with a lot more experience. If you still feel drawn to those early trading sessions, it may help to have a professional on your side.

Investing Tips

  • A financial advisor can help you put an investment plan into action. Finding the right financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
  • Don’t know how much investment risk you can tolerate? SmartAsset’s asset allocation calculator can help you determine your investment profile and see which investments might be right for your portfolio.
  • Our beginner’s guide to shorting the stock market explains how investors hedge against market losses. It also reviews what you need to keep in mind before taking a riskier short position.

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