Scalping is a trading style specializing in taking profits on small price changes , generally soon after a trade has been entered and has become profitable. It requires a trader to have a strict exit strategy , because one large loss could eliminate the many small gains that the trader has worked to obtain.
Having the right tools, such as a live feed, a direct-access broker and the stamina to place many trades is required for this strategy to be successful. Scalping is based on an assumption that most stocks will complete the first stage of a movement a stock will move in the desired direction for a brief time but where it goes from there is uncertain ; some of the stocks will cease to advance and others will continue.
A scalper intends to take as many small profits as possible, not allowing them to evaporate. Such an approach is the opposite of the "let your profits run" mindset, which attempts to optimize positive trading results by increasing the size of winning trades while letting others reverse.
Scalping achieves results by increasing the number of winners and sacrificing the size of the wins. A successful scalper, however, will have a much higher ratio of winning trades versus losing while keeping profits roughly equal or slightly bigger than losses.
A pure scalper will make a number of trades a day , between five and 10 to hundreds. A scalper will mostly utilize one-minute charts since the time frame is small and he or she needs to see the setups as they shape up as close to real time as possible. Automatic instant execution of orders is crucial to a scalper, so a direct-access broker is the preferred weapon of choice.
Traders of other time frames can use scalping as a supplementary approach in several ways. The most obvious way is to use it when the market is choppy or locked in a narrow range.
When there are no trends in a longer time frame, going to a shorter time frame can reveal visible and exploitable trends , which can lead a trader to scalp. Another way to add scalping to longer time-frame trades is through the so-called "umbrella" concept. This approach allows a trader to improve his or her cost basis and maximize a profit. Umbrella trades are done in the following way:. Practically any trading system, based on particular setups, can be used for the purposes of scalping.
In this regard, scalping can be seen as a kind of method of risk management. Basically, any trade can be turned into a scalp by taking a profit near the 1: This means that the size of the profit taken equals the size of a stop dictated by the setup. Scalp trades can be executed on both long and short sides. They can be done on breakouts or in range-bound trading.
Many traditional chart formations , such as a cups and handles or triangles , can be used for scalping. The same can be said about technical indicators if a trader bases decisions on them. The first type of scalping is referred to as "market making," whereby a scalper tries to capitalize on the spread by simultaneously posting a bid and an offer for a specific stock.
Obviously, this strategy can succeed only on mostly immobile stocks that trade big volumes without any real price changes.
This kind of scalping is immensely hard to do successfully as a trader must compete with market makers for the shares on both bids and offers. Also, the profit is so small that any stock movement against the trader's position warrants a loss exceeding his or her original profit target.
The other two styles are based on a more traditional approach and require a moving stock where prices change rapidly. These two styles also require a sound strategy and method of reading the movement. The second type of scalping is done by purchasing a large number of shares that are sold for a gain on a very small price movement. A trader of this style will enter into positions for several thousand shares and wait for a small move, which is usually measured in cents.
Such an approach requires highly liquid stock to allow for entering and exiting 3, to 10, shares easily. The third type of scalping is the closest to the traditional methods of trading. A trader enters an amount of shares on any setup or signal from his or her system, and closes the position as soon as the first exit signal is generated near the 1: Scalping can be very profitable for traders who decide to use it as a primary strategy, or even those who use it to supplement other types of trading.
Adhering to the strict exit strategy is the key to making small profits compound into large gains. The brief amount of market exposure and the frequency of small moves are key attributes that are the reasons why this strategy is popular among many types of traders. Dictionary Term Of The Day. A conflict of interest inherent in any relationship where one party is expected to Broker Reviews Find the best broker for your trading or investing needs See Reviews. Sophisticated content for financial advisors around investment strategies, industry trends, and advisor education.
A celebration of the most influential advisors and their contributions to critical conversations on finance. Become a day trader. Scalping can be adopted as a primary or supplementary style of trading. Primary Style A pure scalper will make a number of trades a day , between five and 10 to hundreds. Supplementary Style Traders of other time frames can use scalping as a supplementary approach in several ways.
Umbrella trades are done in the following way: A trader initiates a position for a longer time-frame trade. While the main trade develops, a trader identifies new setups in a shorter time frame in the direction of the main trade, entering and exiting them by the principles of scalping.
Three Types of Scalping The first type of scalping is referred to as "market making," whereby a scalper tries to capitalize on the spread by simultaneously posting a bid and an offer for a specific stock. The Bottom Line Scalping can be very profitable for traders who decide to use it as a primary strategy, or even those who use it to supplement other types of trading. A conflict of interest inherent in any relationship where one party is expected to act in another's best interests.
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