One of the best things about finance is how broad it is. Investment companies make money in various ways. Mutual fund companies make money by investing in thousands of companies. Long-term investors like Warren Buffet and Carl Icahn make a fortune by buying low and holding their investments for decades. Activist money managers on the other hand make money by investing in companies and advocating for changes.
Among hedge fund managers, there are those who focus on indices, stocks, and other macro products like interest rates and commodities. There are other traders who make money by making short-term trades.
The swing traders hold their trades for a few days while scalpers buy and sell assets within a few minutes. In this article, We will explore in detail the concept behind scalping and how you can make money in it.
How you can make money using scalping
Scalping is the practice of buying securities and selling them within minutes, after making some profit. The idea behind scalping is that even during bullish periods, securities often make small retracements.
It is these retracements that scalpers focus on. When used well, the scalping trading strategy can be very profitable to traders.
However, it has some risks that must be looked at.
When longer-term traders are making decisions, they focus on the fundamental issues about a security. For example, when a country like the United States is expected to release employment numbers or when the Fed is expected to release data on interest rates, they trade on the information. They place trades based on the impact they expect from the market.
They also use technical indicators to know where to place the trades and the stop losses and take profits.
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When scalpers trade, they mostly focus on the technical. They use the technical indicators to determine whether to buy or sell the securities. At the same time, they use the fundamental information minimally.
For example, even when the technical indicators are flashing buy signals, they avoid buying when they expect major data to be released.
Scalping strategy: Focus on short timeframe
To do their analysis, the scalping traders use short timeframe charts. In this, they use timeframes ranging from 1 minute to 15 minutes. They are not focused on longer timeframes like hourly and daily charts. This is because they are not focused on the longer-term trends in the assets.
After identifying securities, they use technical indicators which helps them know whether to buy or sell a security. In case of a buy signal, they buy a security and in case of a sell signal, they short them.
To know the good places to enter and exit trades, they use several charting tools. Some of the tools are Fibonacci Retracement tools, which help them identify entry and exit points.
Scalpers make tiny profits per trade. Therefore, they make money by opening more trades per day. This is the opposite of swing traders who open one or two trades per day. Longer term investors on the other hand open few trades per month.
Therefore, to prevent the trades from becoming longer-term trades, scalpers always use tools like stop loss to limit their losses. It is trading suicide not to use a stop loss during scalping.
A stop loss should be entered at a level where the trader is comfortable losing money at.