Why do people choose to scalp the markets?
The definition of scalping is an attempt to profit from a minor price change on any instrument, with the idea of being in a trade for a short period of time.
The advantage of scalping is that you can be in and out of the market with scalpel like entries, taking anywhere from ten, to hundreds of trades per day. These small trades might look like they create small profits, but when they are added together a scalper can turn these profits into something significant.
Like any trading strategy, the key is to have a strict set of rules that you adhere to each time you place a trade. These include strong entry criteria, stop loss levels and take profit zones. While this might seem easy at first, in this series the discussion will move to why having a trading system for different market conditions is imperative to your trading success! This article explores trading market breakouts using a larger timeframe resistance or support bias, and a smaller timeframe to enter positions.
Recognising a trapped market on a larger timeframe 1HR
Many scalpers fail to recognise that the actions they are taking on a smaller timeframe are less likely to be about what they see on that timeframe, and more likely to be about the prevailing larger timeframe trends. The 1, 5 and 15-minute charts give scalpers the ability to navigate volatile markets with pinpoint accuracy, but what if you were able to help your accuracy by following the larger money flows. The chart above shows resistance being formed at the 1.35558 area (highlighted in yellow) where price has broken.
As price is above the 20-exponential moving average and the 50-exponential moving average on the 1hr chart, it can be expected that there will be further support from the larger timeframe should the breakout fail on the smaller timeframes, and these are the targets of this scalping strategy.
A hammer has confirmed twice at the area highlighted in purple above, demonstrating that the market momentum is with the buyers on the close, and it is possible for a scalper to get a long bias as price breaks above the key resistance zone highlighted in yellow.
Using fibonacci and support resistance zones with candle confirmation
Once a scalper has a bias long, it is possible to start looking for opportunities on the smaller timeframes. A scalper can look for areas of resistance that may act as support when broken, and take advantage of these scenarios. The area highlighted in yellow has multiple touches on the left where the market has found resistance and bounced down from that zone. When the market closed above this level at 1.35558, price confirmed that the market was ready for the next move above.
The candle on the 5 minute timeframe that closed above is marked as the breakout candle, but while conventional wisdom would tell you to buy at this level, the better entry point to avoid making a poor decision is to wait for the market to return back to the 1.35558 area and wait for further confirmation.
Using a Fibonacci retracement is a great tool to gain insight into how a market is going to react after a close above an important zone, once the market has had a small breakout run. The chart above shows that the Fibonacci 38.2 retracement is within the area that price would be expected to come back to before continuing in an upward direction. A scalper can then look for their final signal, which in this case could be an engulfing candle as shown by the arrows pointing to the first two returns to the zone. This will allow the trader to enter using multiple reasons for confirmation.
Adding stochastic and working out a stop loss zone and take profit area
Scalpers must have tight stop loss criteria as part of their trading strategy, as this allows them to take advantage of short sharp market movements, but also minimises their risk of letting a trade go too far against them. The area highlighted in yellow is the key zone that a scalper would want to target for their entry point.
Once an entry confirmation is signalled, a trader can make the decision on where they would most effectively place their stop loss. The area highlighted in red provides a defensive area for a scalper’s stop loss to be placed, as it is below the previous swing lows. If the trader wanted to increase their risk to reward by waiting for the engulfing candle, they can place the stop loss just below the previous lows around the yellow highlighted area.
The stochastic is another important indicator that can be used by a scalper to confirm their entry points. The example above shows that when the engulfing candle closed, the stochastic was already showing bullish momentum as highlighted by the blue areas above.
Once the scalper has made the decision where to enter and place their stop loss, they must then make the decision on the best place to take profit. The market will generally show key areas of resistance that were previously reached, which provide important information about the best placement of the take profit level.
The first entry provides an opportunity to take profit at the previous highs highlighted in green close to the middle of the chart, with the second and third opportunities highlighted in green on the right side.
The importance of letting the market show you the zones
By reading the market using candles, bars and line charts, traders are given key zones to analyse and formulate a strategy. The importance of being impartial to any direction when trading the markets is essential for a scalper to be successful, with at least 3 or 4 reasons for placing a trade.
Remember you must always have a stop loss limit and ideally a take profit area or strategy in place before entering a trade to help limit your downside risk.
Pepperstone doesn’t represent that the material provided here is accurate, current or complete, and therefore shouldn’t be relied upon as such. The information provided here, whether from a third party or not, isn’t to be considered as a recommendation; or an offer to buy or sell; or the solicitation of an offer to buy or sell any security, financial product or instrument; or to participate in any particular trading strategy. We advise any readers of this content to seek their own advice. Without the approval of Pepperstone, reproduction or redistribution of this information isn’t permitted.