Investing

How After-Hours Trading Affects Stock Prices

Most investors know that the major stock exchanges have standard trading hours—set periods of time each day when trading occurs through the exchange. The New York Stock Exchange and the Nasdaq Stock Market in the United States trade regularly from 9:30 am to 4:00 pm ET, with the first trade in the morning creating the opening price for a stock and the final trade at 4:00 pm providing the day's closing price.

After-hours trading is the period of time after the market closes when an investor can buy and sell securities outside of regular trading hours. Trades in the after-hours session are completed through electronic communication networks (ECNs) that match potential buyers and sellers without using a traditional stock exchange. 

Trading outside regular hours has been around for a long time, but it was once only the domain of high-net-worth investors and institutional investors like mutual funds. However, the emergence of electronic communication networks (ECNs) has enabled individual investors to participate in after-hours trading. Financial Industry Regulatory Authority (FINRA) members can voluntarily enter quotations during the after-hours sessions, but they are required to comply with all applicable limit order protection and display rules (the Manning Rule and the SEC order handling rules).

The Three Stock Trading Sessions

There are actually three markets in which shares can be traded:

  • The pre-market trades from 4:00 am to 9:30 am ET.
  • The regular market trades between 9:30 am and 4:00 pm ET. 
  • The after-hours market trades from 4:00 pm to 8:00 pm ET.

The pre- and after-hours markets function in the same fashion as the regular market in that the shares are traded between parties at an agreed upon price. In other words, the price you will receive is the price that someone in the after-hours or pre-market is willing to pay.

Stock Pricing Differences During Extended Hours Trading

Pre- and after-hours markets will generally have less liquidity, more volatility, and lower volume than the regular market. This can have a huge effect on the price you end up receiving for your shares, so it is usually important to use a limit order on any shares that you buy or sell outside normal trading hours.

Generally speaking, price changes in the after-hours market have the same effect on a stock as changes in the regular market do: A $1 increase in the after-hours market is the same as a $1 increase in the regular market. Therefore, if you have a stock that falls from $10 (your purchase price) to $9 during the regular day's trading session, but then rises by $1.50 to trade at $10.50 in the after-hours market, you will have experienced a $1 loss during the day's session ($10–$9), but because prices rose in after-hours trading, you would be sitting on a $0.50 per share gain.

However, once the regular market opens for the next day's trading (when most individual investors will have the opportunity to sell), the stock may not necessarily open at the same price at which it traded in the after-hours market. For example, if a stock's price increases greatly in the after-hours market due to a rumor of increased sales, there could be a lot of investors who want to sell immediately at the market open, increasing selling pressure and possibly driving the price of the stock down from the previous day's after-hours level.

The price changes seen in the after-hours market are useful for showing how the market reacts to new information released after the regular market has closed. However, after-hours price changes are more volatile than regular hours prices, so they shouldn't be relied on as an accurate reflection of what a stock will trade at when the next regular session opens.

In the past, the average investor could only trade shares during regular market hours—after-hours trading was reserved for institutional investors. Today's markets are more open than ever and individuals are free to trade in the extended hours sessions as well with the proliferation of the internet and ECNs. The day when stock investors will be able to trade 24 hours a day, seven days a week may not be too far away.

The Bottom Line

While there can be great benefits to investors and traders participating in after-hours markets, the risks are very real. Anyone participating in after-hours market activity must be mindful of the risks. Many brokers now offer after-hours trading. Check out Investopedia's list of the brokers for day traders to start investigating the options.

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