Scalping is a style of forex trading that aims to capture small price movements of an asset at a time, eventually building this up to make a reasonable profit. This article explores the fundamentals of scalping: what it is, how it works, and the best scalping strategies and indicators to use.
How does scalping work?
The aim of scalping is to make a little profit on small price movements. Scalpers usually do not stay too long in the market and get exposed to all kinds of market risk events. It is a commonly used trading strategy in the forex market. The saying that “little drops of water make a mighty ocean” drives scalping trading strategies.
Depending on the asset class being traded, there can be more benefits than risks or vice versa.
Scalping puts a lot of psychological pressure on the trader. Since scalping requires spotting setups that can be exploited for snappy gains, a scalper cannot afford the loss of concentration. The scalper has to keep scouring the charts to spot opportunities. It is a high-energy, high-pressure game to stay in the game and remain afloat.
Forex scalping can be done using the following strategy types:
a. News trading
b. Technical setups
c. Range trades
d. Price action setups
Every news trade has several components. For the scalper, the most important are the initial spike that occurs as institutional traders respond to the news numbers and the retracement that occurs when they start to exit their positions.
These two phases are the most important for a scalper because the price moves are large. This provides ample opportunity for the scalper to get in and out of the significant moves quickly.
When the market is trading sideways, the market is said to be in consolidation or is range-bound. Ranging markets are marked by highs around the same level and lows around the same level. No higher/lower highs or lows exist, so there is no trend. The scalper can buy at support or sell at resistance in this condition.
A ranging market forms a pattern called the rectangle. Whenever a rectangle forms, you can use a rectangle tool on the MT4 or MT5 platform provided by TFF for your funded trader evaluations to restrict this area. For safety and best practices, any scalp trades made on a rectangle pattern should follow the initial trend that preceded the pattern.
The snapshot below shows an example of a setup that could be exploited using scalp trades.
The chances of a scalp range trade succeeding are higher if you traded in the direction of the prior trend. In this snapshot, the initial trend was a downtrend. The rectangle pattern representing the range-bound market presented two quick selling opportunities while the market consolidated.
Price action setups are trades that aim to capitalize on the momentum of a currency pair in a particular direction. For instance, you may notice on the chart that a currency pair or commodity is attracting a surge in selling or buying volumes. Even without analysis, you can set a trade that quickly gets into profit using the momentum of the asset before it hits a projected resistance or support target.
For instance, Gold (XAU/USD) had a big move on Monday, 20 March in the early London session that propelled it from 1976.00 to 2010.00. This move of 3400 points is considered a very sizable move for gold pairs.
The 15-minute chart for the XAU/USD pair shows that this move was engineered within three of the seven candles, especially on the two penultimate 15-minute candles. When a scalper sees such volume entering the asset, chances are that a scalp trade that follows this momentum can be made, aiming to capture as little as thirty to fifty points of this move. Using a standard lot translates into $300 to $500 profit.
But it is more complex than this. For each 15-minute candle, there are three 5-minute candles, and a look at the smaller time frames reveals that a lot of action happens within each candle that appears massively bullish on the 15-minute time frame. The scalper must decide where to place entry and exit trades to capitalize on the momentum of the big moves.
Beginners must start with the simpler setups before going on to the complicated ones. For instance, scalping the news requires some skill and experience and should not be undertaken by beginners. Beginners should start with technical setups as these are easier to identify and trade. The beginner must ensure that no high-impact news is on the horizon as these have the capacity to completely change the outlook of the market and override any technical setups. The economic news calendar allows beginners to check when the news will hit the markets.
These market conditions can be suitable for scalping:
a. During the initial spike and retracement phase of a high-impact news release
b. When the market is ranging
c. When there is a momentum move
These conditions have already been described above, but a summary of how to identify these market conditions is provided below for clarity.
Scalping can easily lead to devastating losses if there is no risk management in place. A common way such losses occur is when the trader opens trades without setting a stop loss. Due to the nature of scalping, there is a tendency not to set stops, mainly when the trader is focused on catching a move in seconds or minutes.
Losing trades are a part of forex trading. But what makes a trader eventually end up profitable is controlling the losses. Risk management is the practice that ensures that losses do not end up becoming too damaging. Please refer to the article on risk management to get a full description of this topic.
It is more appropriate to speak of the most suitable indicators, as each trader may have a different preference for the indicator for scalping trading. Also, note that the trader’s skill in using an indicator is the most important factor, and not getting fixated on the “best” scalping indicator.
There is no such thing as the best scalping indicators. Indicators are neutral tools. How they perform depends on the trader’s ability to use them for the intended purpose. An indicator may misbehave in one trader’s hands but work wonders in the hands of another. The trader must work to research and test the performance of various indicators to see which is suitable for the scalping operation.
Popular scalping indicators include trend indicators and momentum indicators. The most popular use of trend indicators is when there is a moving average crossover, which can be used to detect a momentum move. The 200-day moving average is a popular dynamic support/resistance indicator. A popular way of using this indicator is to add a short-term moving average and scalp the crossover of this indicator over the 200-day moving average.
Some traders may prefer to trade where the price crosses the 200-day moving average and retraces with a bounce. If the cross is upward and the price retraces downwards to the 200-day moving average, you can trade the bounce as a quick scalp. Please note this does not always work, and you may have to add other filters to form a confluence of factors supporting the trade.
It is not always that native indicators on the MT4 or MT5 can suit the scalping style of the individual trader. Some traders may prefer a particular way of scalping or prefer more clear-cut signals for scalping. That is where custom indicators can come in.
Custom indicators are pieces of code that are programmed on the MQL4 or MQL5 interface for use on the MetaTrader platforms. They can be programmed to contain elements not found on the native indicators of the MetaTrader platforms. An example is if a trader adds a colour code to the MACD indicator to provide a clearer picture of when a momentum move is occurring in the market. Another example is when elements of a native indicator are altered to produce more tradable signals.
The snapshot above features a custom indicator, which has a crossover signal component in the indicator window. Here, there are two signals. One is for the blue line to cross below the red line when the market is overbought, producing a sell signal. The other is a reverse signal in which the blue line crosses above the red line to produce a scalp buy signal. Notice that the moves were rapid and the profit objectives were very small, fitting into the motives of a scalping trading strategy.
Scalping requires quick action and no delays in taking the trades once the signals are spotted. It is usually best to set your indicators to produce audible and visual alerts so that the trader knows exactly when to buy or sell or when to exit without delays. Always ensure a stop loss and profit target are set, and it is best to stick to these parameters once they are set.
What are scalping signals? Scalping signals are trade alerts usually derived from custom indicators or semi-automated expert advisors (EAs). They usually provide clear information on when to enter or exit a scalp trade.
Retail traders work within tight budgets. Most retail trading setups do not include multi-screen computers, mostly seen in institutional trading firms. Usually, a trader’s setup would include several charts. It would be nearly impossible to look at all the charts at the same time and execute, monitor and exit trades at the same time. Without the ability to monitor multiple charts effectively from a single trading station, using scalping signals helps mitigate this issue.
Usually, the trader can set an audible trade alert to provide information on when a price target for entry or exit has been reached. Some external charting tools also allow such alerts to be sent to the trader’s smartphone as a notification or show up as a desktop notification.
The trick is to identify what kind of setup that will be used. Next, set the alerts you want to use for your entry and exit on the charts where you have identified potential opportunities. Once the alerts go off, execute your trades quickly and promptly. Always have your smartphones with you so you can use the MT4 and MT5 mobile apps to trade if you are not close to your computer.
There are tools to help you in your scalping trading. Some are tools to detect order flow, buying or selling volumes, and price action tools. Here is a quick rundown of some of them.
The news is what moves the market. In forex trading, the news follows a monthly schedule of releases, and the economic data covering several countries and their currencies create some of the heavy moves you see in the forex market.
News releases produce some of the most significant movements of currency pairs, stock indices, and commodities. A high-impact news release is followed by a large spike as institutional traders respond to the numbers. After this spike, there is a retracement as they exit their positions to take profit. A more sustained and slower response to the news follows.
Scalping trading strategies using the news aim to catch the initial spike or the retracement move. These moves play out in a matter of seconds or sometimes up to the first five minutes following a news release. If you know how to trade the news, this can be a blessing. However, this can also be a source of ruin to the uninitiated scalpers.
As a scalper, you need to monitor the news, whether or not you intend to scalp off the news. If you prefer to scalp using other methods that do not include news trading, knowing when high-impact news is to be released will help you avoid these risk events. The MT5 has an economic news calendar which can be a source for your news schedule.
Here are some tips for using trading tools in scalping.
a. Keep it simple. Choose one style and one or two tools and stick to them. Better to master one or two tools thoroughly than to use many and master none.
b. Use a tool appropriate for the scalping style you want to use.
c. In as much as it may look like fun piling up the trades, it may be a good idea not to pile on too many of them as the multiple trades could prove challenging to manage.
The future of scalping will lie in using indicators and EAs based on artificial intelligence. Scalping trading strategies are best automated as this will eliminate emotional trading, hunch trading or other forms of human behaviour that will ultimately impact the trading outcomes negatively. However, the use of AI-based robots and indicators in trading is not yet widespread and still has a long way to go.
Until then, there can be no immediate substitute for continuous learning and improvement in scalping through demo accounts and participation in funded trader evaluations. If you want to use scalping as a strategy in forex trading, ensure you pick an appropriate method, use the tools associated with that method and stick to it.
