Scalping Trading: What is Scalp Trading and How Does It Work?

Intraday trading is one of the many ways through which traders generate profits using the price movements of an asset. As the name implies, intraday trading involves purchasing and selling an asset within the same day. Among the many different trading strategies intraday traders often use, scalp trading is the most popular. Wondering what scalp trading is? Here’s a detailed guide explaining the workings of this intraday trading technique.

What is Scalping?
Scalping is a unique trading strategy that involves making multiple trades in quick succession to capture small price movements in an asset. Traders who use this strategy are referred to as scalpers.

Unlike other trading techniques, the scalping trading strategy relies on making trades at a very high frequency. Although the profit you earn per trade might be small, thanks to the high volume of trades, your profits at the end of the day should add up.

The primary idea behind the strategy is to capitalize on the bid-ask spread of an asset and market volatility. The bid-ask spread is the difference between the highest price a buyer is willing to pay for an asset (bid) and the lowest price a seller is willing to sell the asset for (ask). Scalpers often hold their positions open only for a few seconds to a few minutes. This allows them to make hundreds of trades in a day.

How Does the Scalping Trading Strategy Work? 
Now that you’re aware of what scalp trading is, let’s take a look at how it works with the help of a hypothetical example.

Let’s say that you wish to employ the scalping trading strategy. Since you require a highly liquid asset, you choose to trade the stock of Reliance Industries Limited, which has been trending upwards recently.

To capture the price movements in the asset, you start by purchasing 50 shares of the asset at Rs. 2708 per share. A few minutes later, the share price rises to Rs. 2712 per share. At this point, you choose to sell all of the 50 shares of the stock. The profit you receive on this trade will be Rs. 200 (50 shares x Rs. 4 per share).

Once this trade is complete, you immediately place another buy order for 50 shares of Reliance Industries Limited at Rs. 2715 per share. As soon as the share price goes up by another Rs. 4 per share, you square off your position to pocket a profit of Rs. 200.  

You continue this trading pattern till you accumulate a total trading profit of Rs. 2,000, at which point you stop.

As you can see, with the scalping trading strategy, even though the per-trade profit was just Rs. 200, by making 10 such trades in quick succession, you were able to accumulate a profit of Rs. 2,000. This is how scalpers generate profits off the price movements of an asset.

Advantages of Scalp Trading 
With scalp trading, there are plenty of advantages you get to enjoy. Let’s take a quick look at a few of the crucial benefits of this trading technique.

• Short Exposure Time 
  Holding onto a position for a very short period minimizes the downside risk that you’re exposed to.
• Small Price Movements
  Capturing small price movements in an asset is significantly easier than waiting for a large price movement.
• High Frequency of Small Price Movements
  Small price movements are far more frequent than significant movements in a particular direction. Even when an asset is range bound, there will be minor movements in its price.
• No Overnight Risk 
  The scalping trading strategy requires you to close all your positions before the end of the trading day. This eliminates the risk associated with exposure to unexpected news events or market gaps due to holding positions overnight.
• Efficient Capital Utilization 
  Since scalping doesn’t require large amounts of capital, it allows you to deploy your capital more efficiently. Instead of tying up your funds in long-term positions, you can use their capital multiple times throughout the day in quick succession.

Disadvantages of Scalp Trading
As with any other trading strategy, scalp trading also has its share of disadvantages. Here’s a closer look at some of the drawbacks of this trading technique.

• High Transaction Costs
  Since scalping requires you to execute multiple trades in quick succession, it might lead to higher transaction costs. These costs can lower the profits that you generate using this strategy.
• Technology Requirements 
  To be successful at scalping, you need a fast and reliable internet connection, a powerful computer and an advanced trading platform. This requires a lot of investment in quality technology, which can increase your costs.
• Emotionally Draining
  Scalping requires constant attention and quick decision-making skills. The stress and pressure that comes with making rapid trading decisions can be emotionally taxing.
• Dependence on Volatility 
  Market volatility is a crucial requirement for executing the scalping trading strategy. If the volatility is low, finding profitable trades can get challenging due to limited opportunities.

Conclusion
Since you need to execute a large number of trades to get meaningful returns, scalp trading requires unwavering focus and discipline. If you’re planning on employing this strategy, you need to have a well-defined trading plan in place with strict entry and exit rules, stop losses and position sizing.

That said, scalping is more suitable for experienced and disciplined traders. It requires a combination of a thorough understanding of the market dynamics, discipline and skill. If you’re new to trading, it is advisable to begin with long-term trading strategies since they’re relatively less risky. Once you gain enough experience and market knowledge, you may move towards scalping.