Scalping - What is it?

15 May 2020

    What is Scalping?

     

    Generally speaking, scalping has been around for more time than you may imagine. Almost as long as day trading, in fact! Back in the day, investors did it by making use of supply and demand imbalances. Unfortunately, with electronic trading having replaced trading floors, this is now a thing of the past. 

     

    In the modern world we live in today, we can now identify three basic ways of scalping.

     

    The first one is known as “market making”, and it consists of a scalper simultaneously posting a bid and an offer for a stock. He then capitalizes on it, provided that the stock is largely immobile, with big volume and small changes. Many consider this to be a complex and very risky approach. Not only is this direct competition with the market (which hardly ever turns out well), it also means considerable losses if things don’t go as planned. In fact, many believe it goes against the whole idea of scalping, which is all about small gains and small losses. 

     

    The second approach focuses on moving stocks with rapidly changing prices. It consists of purchasing shares in bulk, then selling them as soon as the smallest fluctuation occurs. With a higher chance of success than its predecessor, this way does, however, require a lot of liquidity to allow scalpers to move around as much as 10,000 shares at a time.

     

    The third approach, and one of the most popular ones with scalpers, consists of entering at any type of positive signal and exiting as soon as the 1:1 risk ratio develops. 

     

    What should I keep in mind when scalping?

     

    1. Markets’ cyclical nature

    Whether you are scalping or day trading, the nature of the markets remains. They will revert most of the days. 

     

    2. Probabilities

    Although scalping is the course of action for a generally impatient trader, you still need some patience to make your gains. If probabilities are based on a year’s data, let’s say, quitting in a week, when your profits aren’t what you want them to be, is hardly the way to go.  

     

    3. “Better safe than sorry”

    Truth is, no matter the strategy, markets are still volatile and unpredictable, and you can’t know for sure that the price will behave as you want it to. What you can do, however, is have a set of actions prepared for both outcomes, so you don’t fall into panic mode.

     

    4. Too much diversification

    Scalping can use a variety of technical indicators and small timeframes, but that doesn’t always mean multiple assets. While focusing on 2 or 3 assets may be the way to go - investing in 5 products may turn out a mess. The core of scalping is focus, and multitasking doesn’t mean focus on all, but rather focus on none. 

     

    5. Staying small

    As we mentioned prior, scalping is about small gains and small losses. As you invest large amounts, you are taking on more risk, and although that’s fine for other strategies, it just isn’t scalping any longer. 

     

    6. Preparing your exit strategies

    Although many scalpers don’t use a limit, if you are starting fresh, you should always keep your SL and TP in mind to avoid losses, as well as to be ready to “let it go” when things don’t go according to plan.

     

    7. Remembering it’s not a gamble

    Applicable to all kinds of trading - remembering that the market is not a casino, no matter which style you adopt. It’s about studies, research, calculation, technicals and fundamentals.

     

    Scalper Psychology - Is it right for you?

     

    Choosing a trading strategy is a complicated notion. Not only does it take understanding and sticking to a chosen pathway – it is also greatly dependent on your personality type.

     

    Scalping is considered a fit for impatient traders, who don’t want to wait out for a potentially bigger profit. Scalpers prefer small, but fairly constant gains. Active by nature – they don’t like to have their positions sit, and possess the necessary hours of the day and energy to spend hours observing their indicators, followed by opening and closing positions at every price fluctuation. If you are not sure you have enough time to devote yourself to monitoring all the little ups-and-downs, you may want to start off day trading, and move onto scalping at a later stage.

     

    As always, trading psychology plays a major role in determining whether the scalping strategy is the one for you. If your strong suits are discipline and high concentration, further boosted by the fact that you have the time to sit by your screen and focus (as scalping while doing your day-time job certainly won’t work) - you may have found the right path for yourself. 

     

    Nevertheless, few things to keep in mind are:

     

    Refrain from greed

    As you build up your wins, remember to stick to your trading plan, instead of getting caught up in “winning just a little more”. Exit when you planned, regardless of how good a game you have going for you.

     

    Don’t chase losses

    The desire to “win back” your money is a slippery slope. The more you lose, the harder it is to accept the loss and the more you lose in the end. This concept is applicable to all trading styles, be it scalping, swing or day trading. Don’t enter the vicious cycle to begin with and stop when your trading plan tells you to.

     

    Don’t let fear of missing out get the best of you

    So you picked out your trades, set your plan and are going along with it, until a piece of news or a forum comes along, telling you that someone is making money now on an amazing opportunity. You drop your trades and run towards the new target, which you not only know little about, but are also too late to capitalize on anyway. If someone is already making money on an opportunity, you are already too late to do so yourself.

     

    Dissecting the myth - Scalping with Fondex cTrader

     

    If this all sounds like something you are willing to do, scalping is surely worth trying! But why the controversy in the markets? Many brokers don’t allow scalping, which leads traders to believe that it may be extensively dangerous, or even more so, illegal!

     

    Simply put, honest forex brokers, like Fondex, have no problem allowing scalping, as they can place customer trades with a liquidity provider. A Market Maker model, which many brokers resort to, however, means that they don’t necessarily place customer trades in the underlying market, possibly taking on the risk themselves. 

     

    There is no good reason why a broker should ban any trading style (especially one like scalping, which does, indeed, hold profit-making potential). Whether you are a scalper, or just a classic day trading advocate looking for a reputable intermediary, a ban on the scalping style is a factor to keep an eye on.

     

    If scalping is something you are interested in, why not check out our blog post on the top 4 scalping strategies, including the most popular - Bollinger Bands? Or if you know your stuff, get straight to work on Fondex cTrader!

     

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