Updated 10/25/2023. Written by Ross Cameron
What is Scalp Trading or “Scalping”?
Scalp trading is a fast-paced day trading strategy that involves quickly buying and selling shares of highly liquid securities in order to profit from small fluctuations in price. A typical scalp trader will focus on gaining 5 to 10 cents per trade. With 1,000 share positions, for example, each trade has the potential of earning the trader $50-100. Professional day traders utilizing a scalping day trading strategy will execute these trades with 10,000 or more shares per trade, earning $500-1,000 for each successful scalp trade.
While scalp trading can produce quick profits, there is also risk associated with this strategy. In order to realize long-term success, a scalp trader must be extremely disciplined about cutting their losing trades as quickly as possible. The reason is that most scalp traders have relatively small winners. That means it’s very easy for losers to outsize the winners, thus creating a negative profit-to-loss ratio. With a negative profit-to-loss ratio a trader must be right more than 50% of the time just to break even. In fact, if a trader’s losers are double the size of their winners, they need to be right 66% of the time just to break even. This is setting the bar awfully high, even for an experienced trader.
Scalpers are often advised not to trade with too much share size and not to get greedy as those are easy ways of losing money quickly. As you’ll learn later in this article, a successful scalp trader is one who knows how to cut their losses and when to walk away each day.
The History of the Scalp Trading
The term “scalper” has been used since the 1800s to refer to an individual who bought event tickets in bulk from a box office and then resold them on game day for a profit. They are scalping the profit between the purchase price and the resale price. These types of scalpers earned a bad reputation for price gouging. Scalp trading in the stock market is legal, ethical, and in fact, a necessary strategy in a healthy stock market. The reason the strategy is necessary is that scalp traders provide liquidity to the market with all their buy and sell orders. This liquidity allows investors to enter and exit positions without suffering as much slippage on their orders.
As a trading strategy, scalp trading has been around since the earliest markets. However, in the earlier days, the only traders able to engage in scalp trading were the registered stock brokers who could buy at low prices from a desperate seller and then resell to an eager buyer the same day.
A Mini Class on My Scalp Trading Strategy
The Advantages and Disadvantages of Scalp Trading
Advantages of Scalp Trading
Scalping has some clear advantages. One of the reasons scalp trading appealed to me when I began trading was because it limited my exposure risk and allowed me to take trades that produced nearly instant resolution (for better or worse).
- Scalping has very minimal exposure risk due to the short-duration trades. Exposure risk is a calculation of the share size, the price of the stock, and the length of the hold time. By reducing the hold time to merely minutes, a trader greatly reduces their overall exposure risk.
- Can feel more confident using leverage since hold times are limited. When I began scalp trading, it was the only time I felt comfortable using the leverage I had available to me. It can be scary trading with borrowed money. It was easier for me to take these trades, knowing my average hold time was less than 15 minutes.
- High accuracy boosts confidence. Let’s face it, it’s a lot easier to predict what a stock will do over the next 5 minutes than over the next 5 hours. As a result, scalp traders typically have a high degree of accuracy. High accuracy can boost self-confidence. A confident trader is typically a more profitable trader.
- Can actively trade stocks even when they are extended. Scalp traders are often comfortable trading stocks that are extended because they know they’re keeping tight stops. They will often get in with a 3-5 cent max loss and continue to scalp small gains as the stock goes higher and higher. A trend trader looking for entry off support would most likely miss taking new trades during the extended part of a parabolic move.
Disadvantages of Scalping
Scalping isn’t for everyone. Be sure to practice scalping techniques in a demo account or simulator before putting real capital at risk. This is not a path to immediate riches – scalping requires a particular mindset and lots of perseverance. Here are a few drawbacks that all prospective traders should be aware of.
- Transaction costs can burn scalpers quickly. You’re going to be making at least a dozen trades every day. If you’re still using a broker that charges $5 (or more!) in trading commissions, it’ll be hard to make money scalping. There are discount brokers that offer direct access and will charge closer to $1 or $2 per ticket, and then of course, there are commission-free brokers.
- Scalping is tedious. Jumping in and out of stocks might seem like an exciting way to trade, but scalpers need to constantly focus on the data. You’ll be making the same kinds of trades over and over and over again, trying to build up wins and minimize losses. Not everyone will have the mentality to use scalping effectively.
- The lack of big winners can cause distress. AI systems make the best scalpers since they don’t have the ability to feel regret. Buying a stock at $0.98 and selling at $1.02 is a nice trade for a scalper, but what if that stock shoots to $1.40 an hour later? Can you handle compiling small wins and missing out on these monster gains? Most day traders need some sort of detached indifference to be successful. Scalpers practically need to be robots.
- Risk having a negative profit-to-loss ratio. As a scalp trader, it’s easy to let winners get a little too big. This can, in turn, create a negative profit-loss ratio.
Scalpers mainly make decisions based on the following factors:
- Trade the hot stocks each day based on the watch list you create
- Buy at breakouts and see an instant move up after entry
- Sell quickly if there is no move-up
- As soon as you have a small profit, sell half and adjust exit to your entry point on the remaining position, ensuring high % of accuracy
- Take 3-5 trades until the daily goal has been achieved
Liquidity is also an essential aspect of scalping, given that traders get in and out of their trades multiple times in the same day. In addition, it ensures that traders get the best price they can when getting in and out of the trades.
Scalpers look to make a profit by keeping up to date with the current news and trade latest or future events that are likely to trigger price movements. They also watch the high and low prices of a stock during a given trading session and gauge its direction over the short term. However, this calls for prompt execution and high concentration.
Another method of making money is by setting a profit target amount per trade, and this ought to be relative to the price of the stock. Scalpers should have a win/loss ratio of more than 50% in order to make a profit, as opposed to other intraday trading methods that can still make you money even with a lower win/loss ratio.
Scalp Trading Strategies
Scalping Breakouts
A scalping strategy that focuses on breakout trading will typically involve buying just below the breakout level and taking profit as soon as the stock breaks through that level. This is a great strategy for trading stocks that are relatively extended. Scalp traders focusing on breakout trades will use High of Day Momentum scanners to find stocks squeezing up in real time. Once the stock begins to form a chat pattern, such a bull flag or a flat top breakout, a scalp trader will execute quick trades to capitalize on the breakout.
Scalping Dips
A scalp trader who focuses on dips will execute orders when a stock dips down to a support level. As an example, let’s say a stock is trading at 1.05 and has support at 1.00 a share. If the stock dips to $.99 cents and shows a flow of green orders on the level two, a scalp trader might suspect buyers will push the stock back over support. Using a limit order to buy 5,000 shares at $1.00, the trader will set a stop at $.98 cents with a profit target at $1.05. This trade will produce $250 profit while taking $100 of risk.
In the case of a stock trading around $10.00 a share, the scalp trader will need a larger max loss to accommodate volatility and, thus, will need a larger profit target in order to maintain a 1:1 minimum profit to loss ratio.
Most scalp traders will spend a lot of time focusing on one stock throughout the trading session. As a result, they’ll trade the same security repeatedly, especially on volatility days.
Scalping Breaking News
Many scalp traders focus nearly exclusively on trading breaking news events. When there are news events in the market, such as quarterly earnings from a big-name stock like Tesla and Apple, FOMC meeting minutes, or Economic Data releases, traders are expecting volatility. We know the market will move, but we don’t know which way.
Scalp traders will have orders ready for both long and short, and as soon as the news is released they’ll watch the first indication of market reaction. At the first sign of green or red on the tape, they’ll execute orders and begin scalping the move. The biggest risk with scalping news is that sometimes there can be a whipsaw in price action where the price moves one way then reverses the other. Scalp traders as always must be extremely disciplined about managing their losing trades.
How is Scalping Different From Other Day Trading Strategies?
“Let your winners run” is one of the oldest suppositions in trading. Stocks in uptrends tend to stay in uptrends, and selling should be reserved only for when you reach your predetermined profit goals. Scalping is counterintuitive to most traders because winners are sold quickly, often just as quickly as the losers. Day traders are used to jumping in and out of positions in short time frames, but scalping takes it to another level.
Another unique feature of scalping is the sheer volume of trades required to make outsized profits. Day traders are often warned against overtrading. If you don’t stick to a plan and trade on tilt, transaction costs build up while profits dwindle. Since scalpers make such tiny profits on each trade, larger volume is necessary for the strategy to pay off. Fears of overtrading need to be tempered if you’re going to have success with scalping.
What You’ll Need to Execute Scalp Trades
Since scalping requires lightning-fast trade execution, you’ll need to find software and a broker capable of handling the load. Slow, traditional brokers won’t do the trick here. To maximize the already thin profits produced by scalping, you need the right technology.
- No commissions or heavy volume discounts – Scalpers often make hundreds of trades per day. Imagine getting charged a flat commission on each and every one of those trades. Your profits would quickly be eaten by up transaction costs. To scalp successfully, a zero-commission broker is ideal. Or at least one offering steep discounts for high-volume traders.
- Direct market access will increase speed but comes at a cost – Since scalpers profit off the bid/ask spread and/or tiny price movements, timing is crucial. Direct market access is a must since scalpers need a hit on a high percentage of trades to make money. When you’re trading hundreds upon hundreds of shares each day, you need to know exactly where and when your trade will be executed.
- Advanced Charting Tools – Scalping requires something a little more sophisticated than Robinhood’s candlestick chart. As I mentioned, speed is critical for scalpers. When positions are opened and closed in less than two minutes, using 5-minute candles isn’t very helpful. Scalpers need real-time price updates and 1-minute charts to pull off successful trades.
- Endurance and Quick-Thinking – If you’re looking to celebrate 10 baggers, scalping isn’t the strategy for you. Scalpers can’t just hit on a few winners and take the day at 11am. Be prepared to log a full day behind your screens looking for opportunities. You’ll also need the nimbleness to move out of non-working trades since big losses are Kryptonite to stock scalpers.
Speed and precision are key in scalp trading. If you don’t have a broker offering direct market access or low / zero commissions, you’ll likely be hit with too many transaction costs to make the strategy worthwhile.
Scalping with Commission Free Brokers
Scalp trading has become an increasingly popular strategy since the growth of commission-free trading. Prior to 2019, Robinhood was the only broker that offered commission-free trading, but since it was done via a mobile app, it was not popular among scalp traders. Scalping requires the use of desktop trading software in order to execute the lightning-fast entries and exits required to capture small slivers or shavings of profit.
Today, it’s not uncommon for a scalp trader to execute over 100+ individual trades in 1 day. In fact I personally know traders who average 300-400 tickets per day using ThinkorSwim. In the past, when it cost $5 per ticket, a scalp trader would spend $1,500 in commissions just to execute 300 trades. That meant in the past, each of those trades needed the potential to cover the cost of commission in addition to generating profit.
Today, with commission-free trading, a 500 or 1,000-share scalp trade that produces even just $10 or $20 is 100% profit for the scalp trader.
Bottom Line
Scalping stocks isn’t a bold or innovative trading strategy, but it’s one many day traders have implemented successfully. Scalping minimizes your exposure to losses and enables profitable trading even in the flattest markets.
However, if you’re looking to get rich overnight, you probably won’t be among those success stories. Scalpers must be okay with taking small wins and think only about the next trade.
This may sound easy on paper, but scalping strategies will chew up traders who aren’t experienced enough to handle their emotions.
The first step to successful stock scalping is finding the right broker. One quality option is ThinkorSwim. They offer commission-free trading and a high-tech platform. Recently many traders have begun using Webull as they offer some order types not offered with ThinkorSwim.
Practicing with paper trading is a must before putting cold, hard cash at risk, and begin with smaller position sizes once you graduate to the real thing. Set profit goals before executing each trade and sell quickly if your anticipated move doesn’t occur.
Scalping will take a while to master, but it’s a great skill to add to your arsenal, especially if markets trade sideways for an extended period.