This is the first in the "Getting Started" series which I would be doing on the blog. The purpose of this series is to curate learning resources which give a general sense of what "Scalping" is, and it also helps in creating a mental framework based on which one can further pursue specific sub-areas of interest.
Since most of the content which would be introduced in this post is more US focused, I would attempt to contextualize it based on its applicability and relevance to Indian markets, while adding my prespective as well.
Sometime in 2015, TastyTrade did an awesome six part series on Scalping. I would say it was a first of its kind. Though I would recommend that you watch each of the episodes in series, however due to paucity of time if you would not want to do that here is a re-contextualized summary of it.
Part 1 of 6 - Define, Expect & Explain
"This is the story of Tom and Tony's life, 35 years of scalping for Tom..., we think there is a skill set to it.." - TS (Tom Sosnoff)
Tom and Tony were Market Makers at CBOE, and as market makers all that they did was Buy at Bid and Sell at Ask. Though today they are more like any other retail traders, they still scalp futures and they think there is a skill to it.
"Direction is luck, however there is a method .." "80 % of the time Tom is right.. how can it be pure luck" - TS and TB (Tony Battista)
This is very important to understand. Direction is luck, but there is a method. Which means we at any given point of time, cannot predict the direction, however the skill lies in managing the trade.
"Mechanics.. understanding the probabilities - understanding what is supposed to happen";
"Intraday Range...Opportunity can be found by examining the intraday range and the risk could also be assessed using the same" - TS
Here Tom is trying to say that once you know the probable range in which a specific market operates, you would know the boundaries withing which the price would move, for instance if you are at the mean at a given point of time, you know the probable move in either side that can happen. Which also means you know when the move exceeds the norm.
"Bet the same side.. Short side" - TS
Though Tom says he always has a short bias, personally I have benefited by being direction agnostic, I personally do not see an edge in trading only one side, the reason he may be suggesting that is, because he trades futures and mentally its easy to stay on one side, however when it comes to options all that you have to do is to look at which side is going up (It has to be either the CE or PE), so mentally you are always chasing the price/premium moving upwards, and hence being direction agnostic works well in Options.
"Its not about where it ends up.. its about what it does in between." - TS
Full time traders look at what happens between the open and close of the markets, and that is where opportunities lie. At NiftyScalper we have analyzed data to understand the probable opportunities a market like NIFTY can offer, and there are several such sweet spots that are there for the taking.
"Directional call is not what makes money for most people" - TS
Read this sentence again! There is nothing more that I would like to add here.
"More than an engagement tool" - TS
Meaning, they used this approach for more than just being busy with markets, they make money through this. And yes anyone can, so long as they develop the skills.
"Scalping Products - Tiers, Liquidity separates the tiers". -TS
In India, if we go by liquidity the only products which stand out are NIFTY Options and Futures. Stocks options just don't fit the bill. Especially if you are looking at scalability.
"Some point where you have a very high statistical chance to take your 4 or 5 point profit" - "That's all scalping is - recognizing those odds" - TS
All that you need to do is to analyze NIFTY intraday data on a shorter time frame and see where such statistically high probability trade locations exist. And they do!
Finally rounding it off Tom and Tony share the key aspects to successful scalping
1. Markets are cyclical
Meaning markets are mean reverting most of the days. More on this later, this deserves a blog post of it own.
2. Probabilistic outcomes... if you wait long enough
You need to play the game long enough for the probabilities to come true, meaning if the probabilities are based on a years' data, then you would need at least a year long participation to gain by those probabilities.
3. Managing winners vs. Managing price - you cannot expect the market to go the level that you think its gonna go to... you can expect though the levels its supposed to be, based on where its currently trading
Trade management is what they are alluding to over here. You cannot predict where the price will go in the next few minutes or hours, but you can have a plan in place as to what you would do if the price moves in either direction.
4. Multitasking
Yes, you may have to work with multiple systems, charting tools and order execution tools. But there is a catch here, multitasking does not mean trading multiple instruments. I have seldom seen a successful scalper who focuses on more than 2 products. I personally cannot do even 2, I trade only 1 instrument i.e NIFTY
5. You have to stay small
Yes at least till the time you master the game, you need to stay small. And to make money scalping while staying small is possible but you need the right brokerage plan for that. Something like a fixed brokerage plan is ideal.
6. You have to recognize when the move has exceeded your expectation
This is something which I highlighted previously, once you know the probable ranges you know what to expect.
7. You have to have the capital
Yes you need to have sufficient capital to start with, what constitutes sufficient capital needs a post of it own.
8. You have to recognize when you are in the wrong product...
Here again, its more to do with liquidity, especially with Options, some ITM and OTM strikes may have insufficient liquidity, from a scalping standpoint. Also knowledge of Option greeks is desirable to understand how those variables can affect us.
9. Usually a Intraday play - why "usually"
Tom says sometimes they tend to hold positions for longer duration. I want to clarify a few things in the context of scalping. One, the risks associated with scalping are very different from the risks associated with Positional trades. Hence if you plan to hold positions overnight you need to manage your size accordingly, else you could be risking all the advantages of scalping intraday and perhaps risking your capital much more than what you would want to.
10. Before entering the trade we need to have an exit strategy - Profit target.
Yes, essentially you need to have both a SL and a Target in mind. Yes I said it right "in mind". The reason I am underlining that aspect is, scalping is more like surfing, you need to go with the flow, which can mean both "Scaling-in" and "Scaling-out" of trades. But this scaling in and out needs to be done in the context of the probabilities. Which is where understanding probabilities becomes so important.
11. Scalping is luck.. but success is understanding the simple math...
Lastly, we need to appreciate that "Picking the direction" or "Directional movement" is luck. But what we do with that movement and how we manage that is math.