Day trading is a relatively popular trading style. In the United States, the approach has been made popular by companies like Robinhood that offer commission-free trading. Also, the Covid-19 pandemic pushed more people into day trading. One of the common day trading approaches is known as scalping. In this article, we will look at some of the best practices of scalping and key mistakes to avoid.
What is scalping in the forex?
Scalping is a day trading strategy whose goal is to open tens or hundreds of trades every day. These trades will each produce a small profit. Therefore, adding tens of small profits will result in substantial profits for the trader.
Scalping differs from other popular trading approaches in several ways. For one, it does not involve leaving trades open overnight because of the risks involved. The strategy does also not involve looking at the macro issues affecting a currency pair. Therefore, let us look at some of the key practices in scalping.
Chart timeframes
Scalping is a form of day trading. Therefore, traders using this strategy specialize in identifying opportunities using a very short time frame chart. The most common chart timeframes by traders using this approach is less than 5 minutes. Some even use a one-minute chart because the goal is to capture very short-term profits.
Therefore, we don’t recommend using long-term charts when you are using a scalping strategy. This includes charts that are longer than 15 minutes. Doing so will often push you to make significant mistakes.
For beginners, each candle in a candlestick chart represents the specific period you are using. For example, in an hourly chart, each bar represents one hour. Therefore, if you use a daily chart in scalping, each bar will represent a day. As such, you will typically miss key opportunities.
Let me show you this with an example. In the chart below, we see that the EUR/USD is in an overall bearish trend on the daily chart. Therefore, the overall path of least resistance for the pair is to the downside when you use the daily chart.
EUR/USD daily chart
However, the situation changes when you shift to a three-minute chart, as shown below. As you can see, the pair is generally in a bullish trend when you look at the three-hour chart.
EUR/USD 3-minute chart
Therefore, we recommend that you use a very short-term chart. At the same time, when you are using a multi-timeframe analysis, you should start with a modestly short timeframe. In most cases, we recommend that you start with a 15-minute chart and then move to a 10-minute and then a 5-minute chart.
Overnight trades
Another best practice when you are using a scalping trading strategy is always to avoid leaving your trades overnight. When you do so, you actually invalidate your strategy from scalping to swing trading.
The main risk of leaving your trades open overnight is that you don’t have any control of your trades when you are asleep. This is risky for both forex and stock traders. For forex traders, the market is usually open 24 hours per day, five days a week.
Therefore, if something comes up at night, there is a possibility that you will make a loss. Some of the key events that can come up at night are an emergency interest rate hike or a major political announcement.
For stock traders, leaving a trade open in the overnight session can put you at risk of a major gap-up or gap-down. For example, this could happen when a company publishes its results after the market closes or when there is a merger and acquisition activity in an industry.
Risk management in scalping
The next important best practice in scalping is risk management. As you possibly know, all trading approaches in the forex market are usually risky. Therefore, your goal as a trader is to minimize these risks while at the same time maximizing your profits.
There are several risk management strategies you could apply as a scalper. First, you could ensure that the size of your leverage is relatively modest. If you are just starting out, we recommend that you use very small leverage. You should then add into this leverage as you grow your trading account and experience.
Second, you should avoid the martingale trading strategy. This is a strategy that calls for doubling down. For example, if you opened a buy trade of 1 lot of the EUR/USD and lost money, you should open a similar trade with a bigger lot size. The goal of doing this is to ensure that the profit of a bigger trade will cancel out the previous losses. This is a very risky strategy that will mostly lead to substantial losses.
Third, you should always place a take-profit and stop-loss at the right places for all your trades. These stops will see your trades stopped at key levels. There are several benefits of having these stops. The most important advantage is that they will protect your account when there is an immediate strong swing in the market.
Other risk management strategies include avoiding overtrading and planning trade management.
Master a few strategies
Unlike the popular opinion, the fact is that less is better in trading. This means that you should always avoid overdoing it when day trading. For example, avoid clouding your charts with tens of technical indicators. Instead, master about 3 or 4 of them. Similarly, instead of focusing on tens of currency pairs, specialize on a few of them.
Additionally, instead of opening tens of trades per day, focus on opening just a few of them. And finally, avoid using tens of trading or chart analysis techniques. Focusing on just a few of them will save you time and money.
Summary
Scalping is a good trading strategy for people who are doing it on a full-time basis. In this article, we have looked at some of the most popular best practices when using the trading approach.
