Premarket Trading, Explained – IHowBlog

Premarket trading definition

Premarket trading is a stock trading activity that takes place outside official market hours, typically between 4 a.m and 9:30 a.m Eastern time in the U.S. or as specified by your brokerage. Premarket trading allows investors to react to news events outside regular business hours and place a trade between 4 a.m. and 9:30 a.m.

Most U.S. markets are open from 9:30 a.m. to 4 p.m. Eastern time. Premarket trading is also known as extended-hours trading and electronic trading hours, or ETH. Here’s what you need to know about the characteristics of this early morning period of extended-hours trading, how it came to be and what’s for sale.

History of premarket trading

While most U.S. exchanges currently offer premarket trading, it wasn’t always so. The advent of the internet enabled markets to extend trading hours. The U.S. began offering after-hours trading in the early 1990s in response to foreign market competition from the London International Stock Exchange, extending trading from 4 to 6:30 p.m. Eastern time.

Risks and rewards of premarket trading

You may wonder what investors have to gain from premarket trading. Active and institutional investors are looking to buy or sell securities as prices fluctuate before the exchanges open to the broader market. Often, these trades are made in reaction to foreign market trading that occurred overnight. Investors want to get a jump on how the market may respond to a news event like a press conference, earnings report, natural disaster or government announcement, such as the 8:30 a.m. Eastern time release of the U.S. Bureau of Labor Statistics Unemployment Survey Results.

Although more accessible than ever, premarket trading activity sees lower trading volume than regular business hours. Moreover, premarket trading is considered a risky investment strategy for less-experienced investors. Successfully trading in the premarket means predicting how people will react when the market opens, which is far from certain. Other premarket trading risks include:

  • Large bid-ask spread. The bid-ask spread refers to the difference between the offer (bid) and the asking price. In other words, the bid-ask spread is the difference between the highest price the buyer is willing to offer and the lowest price the seller is willing to accept.

  • Low trading volumes. Not a lot of trading happens in the morning. The lower number of trades (or volume) affects market liquidity.

  • Professional trading competition. Premarket trading is more likely to place individual investors in competition with institutional investors with more resources, information and experience.

  • Price volatility. Fewer trades and traders lead to broad price variations across electronic communication networks, or ECNs, or the computerized trading systems where trades are placed off-hours.

How to access premarket trading and what’s available

To place premarket orders, investors first need access to a brokerage account. These days, many online brokers offer premarket trading. If you are new to stock trading, you can select and open an account with a brokerage that provides low-cost or free market research and premarket trading. However, once your account is open and funded, keep in mind that premarket trading is limited to specific securities, order type and price.

  • Securities: Many listed stocks and exchange-traded funds are available for premarket trading.

  • Orders: Most brokerages offer limit orders during premarket trading or trade orders set to a particular price or better.

  • Price: During business hours, brokers try to match orders between buyers and sellers at a specific price or better. During premarket trading, however, prices also vary across ECNs that aren’t linked. This makes it harder to know if you’re getting the best price for your trade. Additionally, suppose you place a trade and the stock price falls or rises unexpectedly between the time you place the bid and the market opens (because, for example, a company releases an earnings report outside of regular trading hours). In that case, the market conditions for your order may change. As a result, you, the investor, may risk losing the order or paying a higher price during premarket hours.

Considering all this, should you trade in the premarket? Unless you’re an experienced day trader or institutional investor, probably not. The buy-and-hold investing strategy serves most individual investors without exposing them to as much risk.

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