Introduction to Scalping
Scalping is a very short-term trading style and despite its odd name, it's quite popular among professional traders.
Scalping represents the shortest-term style of trading, even shorter than day trading, and got its name because it attempts to skim many small profits off of a large number of trades throughout the trading day. Scalpers believe that it's easier to catch and profit from small moves in stock prices rather than from large moves.
Scalping is Technical Analysis
Scalpers are usually technical analysis traders, as opposed to fundamentals traders. Technical analysis focuses on a security's past price movements, usually with the help of charts and other data analysis tools. Traders use the historical price information to predict the security's future movements and set up their trades.
Fundamental analysis usually involves using a company's financial statements, discounted cash flow modeling and other tools to assess a company's intrinsic value. Scalpers may trade on news or events that drastically affect a company’s value immediately after its release. In some cases, they may also use short term changes in fundamental ratios to scalp trades but typically they focus mostly on the technical charts.
Scalpers use technical analysis but within this style, can be either discretionary or system traders. Discretionary scalpers will make each trading decision in real time (albeit very quickly), whereas system scalpers follow a scalping system without making any individual trading decisions. Scalpers primarily use the market's prices to make their trading decisions, but some scalpers also use one or more technical indicators, such as moving averages, channel bands, and other chart patterns.
Scalping chart timeframes and the amount of time that each trade is active are the shortest of all of the trading styles. For example, a day trader might use a five-minute chart, and make four or five trades per trading day, with each trade being active for thirty minutes.
In contrast, a scalper might use a five-second chart, where each price bar represents only five seconds of trading, and make anywhere from 20 to 100 or more trades per day, with each trade being active for a few seconds to a few minutes.
Styles and Techniques
As with any other style of trading, many different methods of scalping exist. The most well-known scalping technique is using the market's time and sales to determine when and where to make trades. Scalping using the time and sales is sometimes referred to as tape reading because the time and sales used to be displayed on the old-fashioned ticker tape, known as the tape.
Some scalping techniques are similar to other trading styles in that they use bar or candlestick charts, and traders determine when and where to make trades using price patterns, support and resistance, and technical indicator signals.
The Trading Psychology
Scalping is most suitable for a specific type of trading personality. Scalpers must be very disciplined, especially in the case of system scalpers, as they must be capable of following their trading system precisely no matter what.
Scalpers must be able to make decisions without any hesitation, and without questioning their decisions once they have been made. However, scalpers must also be flexible enough to recognize when a trade is not proceeding as expected or hoped and take action to rectify the situation by exiting the trade.
To Be or Not To Be a Scalper?
If you are a position trader that uses daily charts and makes your trading decisions over the course of an entire evening, you probably won't make a good scalper. However, if the thought of waiting several days for your next trade drives you insane and you prefer quick trades, then perhaps scalping would be suitable for you.
Scalping can appear easy because a scalper might make an entire day's profit within a few minutes. However, in reality, scalping can be quite challenging because there is very little room for error. If you do decide to try scalping, make sure that you do so by using a trading simulator, until you are consistently profitable and no longer make any beginning mistakes, such as not exiting your trades when they move against you.