Scalping is an ultra-short-term trading strategy in which the trader repeatedly tries to buy the bid or sell the offer and then shortly exits the trade with a tick profit or a scratch. The successful scalper will scratch a fair amount of trades while avoiding taking a loss. With the goal of buying the bid and selling the offer, it is essential to avoid taking losses, especially losses of multiple ticks.
Although foreign exchange and equities products attract many scalpers, futures are ideal markets for the implementation of this powerful methodology.
Let’s take a closer look at scalping and what it takes to make money as a scalper over the long haul.
The Ins and Outs of Scalping
Before the onset of electronic trading and the accompanying commission compression, scalping was not a viable strategy for retail traders. A decade or so ago, retail traders didn’t have access to the necessary tools for scalping, and, frankly, commissions would eat up all of the narrow profits scalping produced.
However, modern financial markets are diverse arenas featuring minimal barriers to entry. Retail traders now have access to professional platforms and data feeds that help to even the playing field. Because of the accommodative atmosphere, thousands of people enter the markets every year. Many new traders view scalping as a surefire way to make some easy money. Unfortunately, it’s a bit more complicated than that.
From a practical standpoint, scalping has several attractive features:
- Frequency: Scalping is an active trading strategy that requires executing a high number of trades daily. If you’re seeking action, rest assured that you’ll never be bored.
- Few sustained losing trades: Traditional day and swing trading strategies typically aim for modest 25-30% winning percentages to stay in the green. Often they have to withstand cold streaks that produce multiple losing trades that can challenge their discipline. Scalpers, on the other hand, will scratch most trades if they lose their initial edge. Because of the small profit targets, the odds of a scalp cashing in are much greater than those found in traditional trades. On the downside, scalpers must have the patience to enter with an edge and the discipline to scratch trades once they appear to lose the edge rather than risk taking a loss.
- Reduced risk: Scalping strategies are designed with ultra-short-term trading horizons in mind. Holding positions for only seconds or minutes vastly reduces exposure to systemic risk. If the market crashes or breaks out, scalpers are unlikely to suffer a negative impact.
There’s no denying that scalping offers a collection of unique benefits. Reduced risk exposure, lack of extended losses, and constant action are factors that frequently gain the attention of novice traders. Action and limited risk—where do I sign up?
Despite the upsides, scalpers face a long list of necessities that are vital to success. It isn’t enough to have a viable strategy; consistent execution is an absolute must. To accomplish this feat, all trade-related efficiencies need to be optimized.
These five inputs are essential for anyone interested in becoming a profitable futures or options scalper:
1. Direct Market Access
To be a successful scalper, you have to be fast. Direct market access with a reliable and speedy platform enables you to transfer data to and from the market free of intermediaries. The result is reduced trade-related latencies facing order entry and active position management. Advanced platforms, such as dt Pro, offer this feature to retail traders who require the utmost speed.
2. Liquidity
The success of any scalping strategy depends on how efficiently it’s traded. From the standpoint of the market, maximum depth and liquidity are ideal. Deep markets feature tight bid-ask spreads and robust participation, two factors that minimize slippage and promote desirable order fills. Market liquidity is one area in which the futures markets are especially receptive to scalping. Equities indices, energies, metals, and bonds all offer contracts that are inherently liquid and tradable.
3. Volatility
Future contracts that exhibit constant pricing volatility are the best targets for the scalper. Although capitalizing on small price movements is the objective, the greater the volatility, the better. Large daily ranges and regular periods of heavy participation are common attributes of a volatile market. Many futures contracts offer consistent volatility. Three of the most active are WTI crude oil, gold, and the E-mini S&P 500.
4. Stamina
The backbone of any scalping strategy is the execution of significant volumes. For other disciplines, such as day or swing trading, restraint is a virtue. Scalping is a different animal―you must be aggressive and ready to capitalize on all opportunities. Because scalpers take small profits, the number of trades executed is a primary driver of the bottom line. Missed trades are as bad as losing trades, which means the successful scalper must have the stamina to identify and execute trades all session, week-, month-, and yearlong.
Scalpers must be present in the market(s) they trade all day long. There are no breaks while holding a position. Every edge must be taken and carefully watched for the chance to profit or the necessity to exit.
5. Low Costs
Sunk costs are the amount of capital required to sustain operations. To active futures traders, this means commissions, exchange fees, data fees, and platform fees. One thing you can do to minimize your sunk costs is to deal with a good broker. Strong brokerage firms often provide their clients with complimentary trading platforms and data feeds. Reduced or tiered commission structures can also help mitigate the cost of buying and selling large volumes of contracts on the open market. A scalper must discuss their trading strategy with their broker to ensure the broker can provide a viable fee structure that will enable success.
Risks in Scalping
Scalping is a high-frequency strategy that requires discipline, stamina, and, yes, patience. First, a trader must have all the proper tools in place to execute any scalping strategy. That trader also must have the time and fortitude to be present in the market at all times while they are active.
Finally, the trader needs to be patient. This may seem counterintuitive for a high-frequency trading strategy, but entering with a solid edge is a key to success in any scalping strategy. Without a proper edge, the scalper will be forced to continuously scratch trades or endure a stream of losing trades.
Also, every market goes through periods of reduced volatility and activity. These are times when it would be wise for the scalper to take a break. One of the benefits of scalping is that the trader knows—most of the time—that once they gain an edge, that trader can be confident to exit the trade with no worse than a scratch. That may not be the case if volume is light.
Scalping Options
Scalping is a strategy best used in highly liquid markets with a great deal of volume on both sides of the bid and ask spread. Scalp trading options are a different animal.
First, instead of one or two markets, the traders must follow dozens of strikes in both puts and calls. Although option volume in the SPY is huge, every individual strike that the trader is looking at may not have the same liquidity as the S&P future.
Gaining an edge with scalping options is even more imperative because the opportunity to immediately scratch a trade may not be as viable with options. While scalping options, the trader must seek not only the most active markets but also the most active strikes within that market.
Want to Become an Options Scalper?
Perhaps the single largest benefit of scalping is flexibility. As a primary or supplementary methodology, scalping futures can help you pursue your financial goals with limited risk. For insights into how to be an effective options scalper, take our free “Options Strategy” course.
