Techniques Used in Scalping the Forex Markets
Scalping is a trading strategy that is often used by forex traders as the currency market provides substantial liquidity, allowing traders to enter and exit with minimal slippage. The goal of a scalping strategy is to enter and exit a market very quickly looking for quick sharp changes in an exchange rate that might be overextended. In addition to developing a scalping strategy that will win more than it loses, you want to find a forex broker that provides you with the best chance to employ your strategy. This includes having tight spreads, a robust trading platform, and access to many different currency pairs.
What is Scalping?
Scalping is a trading strategy used to capture small movements in the exchange rate of a currency pair. The risk that you will assume should be equal or greater than the reward you attempt to gain. Scalpers often use technical indicators such as Bollinger bands or the relative strength index, which describe market conditions where the exchange rate is overextended. The Bollinger band is a technical indicator that describes the distribution of a market and can alert a trader when the range of the distribution is outside the norm.
For example, you can sell when an exchange rate hits a Bollinger band high (the red arrows in the chart) and quickly cover or purchase when the exchange rate hits a Bollinger band low (the green arrows in the chart) looking for a sharp rebound in the exchange rate. You can also alter the time frame from daily to hourly or even minutes to find a timeframe that works best for you.
As opposed to other forex trading strategies such as a trend following strategy where you can afford to lose more times than you win because you are trying to catch large moves, as scalping strategy has a well-defined risk-reward profile.
Most successful scalpers use a 1-1 risk-reward profile which means that they are willing to lose $1 for every $1 they gain. The concept of scalping focuses on a short time frame where the move comes within the day you initiate the trade, and you would definitely avoid holding the position for an extended period. Novice traders who change the profile on the fly are bound to lose money.
The Costs of Scalping
A scalping strategy requires multiple trades that are executed quickly with little time to contemplate the opportunity. When your strategy alerts you to a signal you need to move fast and execute quickly. Scalpers might purchase a currency pair such as the EUR/USD at 1.1805 and immediately sell at 1.1825.
The costs to enter and exit the market need to be minimal as higher costs can eat into your gains. For example, a trade that generates a profit of 20 pips would need to cover commissions and potentially other costs such as financing for leverage. Finding a forex broker that provides tight spreads around the clock is pertinent to a successful scalping strategy.
By combining a prudent technical strategy with a robust risk-reward management technique and a forex broker that provides tight bid-offer spreads and an excellent platform, you are on your way to executing a successful scalping strategy.