The Hidden Dangers of Scalping in Forex

10/15/2013 9:00 am EST

Focus: FOREX

Scalping is a take-no-prisoners, cut-throat trading strategy that exposes its practitioners to extreme risk and leaves no room for the weak, warns the staff of

Scalping is an alluring draw for many new traders. It promises action, suspense, immediate gratification, and, if done well, bragging rights. In fact, scalping is the most often suggested trading method in forex forums, and new traders, unaware of its dangers, frequently take their peers’ assurances at face value.

Scalping is a trading method in which the chart technician opens several very short-term trades with the aim of coming away with small gains each time. Scalpers, if they use a stop loss, typically set it to at least twice the amount of that they want to make in profit. A scalper utilizes indicators that lag the price less than others, such as the relative strength index and the fast stochastic. They often also make use of non-lagging indicators that interpret volume, such as the market facilitation index. With these indicators, they typically seek to identify retractions in established trends, or else make back-to-back trades within a range.

Additionally, the scalper may view several different charts at once, one for each major time frame: 1 minute, 5 minute, 15 minute, 1 hour and 4 hour. With these, they can identify areas of support and resistance and trend correlation.

However, as sophisticated as these methods are, there are significant dangers to scalping. Primary among these is the nature of scalping itself, which encourages the gambler’s mindset of “all or nothing.” Scalpers may ascribe too much importance to the result of a signal trade, becoming emotionally attached. The premise of scalping is that with a sound trading system, proper money management and sufficient volume, the scalper should end the day, week or month with a profit. If the scalper reacts badly to a single bad trade, however, they could begin making emotional decisions that can magnify that initial loss into the total loss of their account in a frighteningly brief amount of time.

Furthermore, while scalping is pushed on to new traders by more experienced ones and even some unscrupulous brokers, most novices do not have the account size required to truly benefit from scalping. For instance, most brokers that cater to new traders require a deposit of at least $300 and offer spreads of, at minimum, three pips. Three pips, however, is far too wide for the purposes of scalping. A professional scalper will trade with a spread of .5 pip, with one pip being the absolute maximum. Access to an account that provides such a spread typically requires an initial deposit of $10,000.

The difference between one pip and three pips may seem trivial at first glance—and it is for long-term traders—but keep in mind that scalpers need to be in and out of the market in mere minutes. When dealing with tick charts, two pips can be a significant barrier to overcome, especially if it occurs in an area of resistance or support.

Another hidden danger of scalping lies in the fact that the countries that forex currency pairs are based upon frequently release economic news. The market becomes incredibly volatile during these times and the price of the more active pairs can easily fluctuate over 100 pips. In such a tempest, the scalper has no hope of setting stop losses and is at the mercy of the market.

In addition to cluing in to economic data releases, steeling yourself against emotional trades and having adequate account size, you can minimize your risks when scalping by studying the major currency pairs. Each currency pair has a “personality” of sorts. It has a habitual daily and hourly range. If you can ingrain the way the currency pairs move in your subconscious by watching them move over a long period of time, your trading decisions will be better informed.

Additionally, it is of paramount importance that you have a tested trading system in place before you begin scalping and that you stick to it at all times. If you deviate even a bit, you will be in danger of making emotional, knee-jerk decisions, and you may lose your account.

Scalping is not, as it is often touted, the holy grail of forex trading. It is a take-no-prisoners, cut-throat affair that exposes its practitioners to extreme risk and leaves no room for the weak. Arm yourself with knowledge and save the gambling for the poker table, and you may have a chance of joining the elite few who scalp profitably over the long term.

By the staff of

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