HIGH FREQUENCY TRADING – THE HIDDEN DANGERS OF SCALPING &

DAY TRADING
When people first develop an interest in becoming a Forex trader, the main strategies constantly
pushed by most other traders are the high frequency trading systems. It’s such a “hot”,
controversial, heavily discussed and somewhat viral subject that is saturating threads in all the Forex
trading forums. Even the internet marketers and brokers are promoting high frequency trading on
every corner of the internet.

High frequency trading approaches, like scalping or daytrading, are no doubt in high demand.
Traders are attracted to fast paced systems because they promote plenty of adrenaline fuelled
action, immediate gratification and promise of lots of trading opportunities.

If you’re thinking about taking on a high frequency trading system, do yourself a big favour and read
this article before you do. The intensity of these systems can turn you into a vegetable, negatively
impact your everyday life and maybe even cause you to contemplate suicide. I am going to tell you
why I think scalping, or any other high frequency trading strategy is not only a dangerous play, but
bad for your health.

THE ATTRACTION OF HIGH FREQUENCY TRADING

The whole idea of high frequency trading is to open positions for only a very short amount of time,
sometimes only even seconds. This intense in-and-out trading is the ‘excitement’ fresh new traders
are looking for. Even if they are lucky to only walk away with breadcrumbs, it’s still a hell of a thrill
ride. You can remember when you first started trading. All you wanted to do was sit in front of the
charts all day and take as many trades as you could.

High frequency trading systems generally have very small profit targets. Making decent returns for
the day requires the high frequency trader to make a disturbing amount of profitable trades to
ensure their efforts are worth it. But at this stage who cares right? They’re trading. They’re happy
riding high on endorphins. Nothing else matters! It’s an addiction to drugs. These guys know it’s
detrimental to their quality of life, but they still chase the high.

Eventually the whole initial buzz wears off. The trader starts getting serious by focusing more on
actually earning money. Unfortunately the trader is still ‘conditioned’ to that high frequency trading
mentality. It can be a vicious cycle to break free from because no one likes to admit defeat. The truth
is that the high frequency trading approach to the market doesn’t work. Sooner or later, traders
engaging in high frequency trading strategies will realize they’re flogging a dead horse.

TRADER BURNOUT
High frequency trading, particularly scalping, requires you to spend many hours glued to monitors
tracking the minute by minute movement. If you go for a toilet break, or the kitchen to grab a
coffee/something to eat, you may miss out on the trading opportunity you’ve been staring at the
charts for the last 3 hours waiting for. #frustrating

Sitting in front of the charts for too long is mentally taxing and even will affect you physically.
Personally, I’ve had enough after looking at charts for more than 30 minutes. The thought of
spending extended in front of them, keeping track of minute price movements non-stop, makes me
uneasy.

Your mind can only take so much. How long can you sit in front of charts and remain mentally
focused? How long before you get tired and start making bad trading decisions? What is the
threshold where boredom kicks in and you start forcing trades just to make something happen?
Trades should only be opened when the probabilities are in your favor, not because you need
mental stimulation.

SMALL ROOM FOR ERROR

Most high frequency trading systems encourage bad money management by expose your account to
an unhealthy amount of risk. Generally, a high frequency trading system requires you to risk too
much for the small gains. The risk reward ratios are usually in the negative, a serious red flag in my
books.

The losses are so much bigger than the wins. One losing trade can put you in a deep hole that’s very
hard to climb out of. High frequency trading rule always seem to focus on pips. I’ll show the same
courtesy with the following example.
A high frequency trader might risk 20 pips to gain 5 pips. That’s a negative risk/reward ratio of 4:1.
To put that in perspective, one losing trade will set a scalper back 4 risk factors. The scalper’s next 4
trades will need to be successful in order to get the account back to the ‘break even’ stage. Of
course that’s assuming the same lot sizing is used on all the trades. High frequency traders tend to
use irregular money management.

High frequency trading can go pear shaped so fast, it’s frightening. The chances of the next 4 trades
being successful are against you. The margin of error allowed is 20 pips. That’s not much at all
considering the average day to day volatility is three times greater than that. The market only needs
to hiccup in the wrong direction and the trade is stopped out. While the high frequency trader is
trying to recover from losses, every single stop out makes the hole 4 risk factors deeper.

Negative risk/reward means you need to make an overwhelming amount of winning trades over
losing trades. Suffering a loss at any time it’s such a huge setback. The desperation and pressure
builds immensely when high frequency trading strategies push accounts ‘into the red’. This starts to
induce stress which grows into emotional and irrational fueled Forex trading mistakes.

No high frequency trading system, or any trading system in my opinion is going to work out in the
long run unless the risk/reward ratios are in the positive. If you’re risking 20 pips, then you should be
at least aiming for 40 pips in returns, not 5. A positive risk/reward model of 1:2 allows you to lose
half of your trades, but still make money in the long term. That’s why we are adamant about using
positive risk/reward in our price action trading because you can’t win every trade, and no one
expects you to. It’s so critical to ensure your winners outperform all your losses.

NO STOP LOSS
Up to this point we’ve been assuming that high frequency trading strategies actually use a stop loss.
I know most of them don’t. Because the stops generally required are so tight, any tiny vibrations in
the market will knock out the trade.

These vibrations are just the result of all the normal day to day activity in the market. The larger
commercial businesses perform large overseas currency transactions that contribute to the day to
day volatility. I’ve noticed most high frequency traders will blame these ‘abnormal’ intraday price
movements on their broker trying to ‘stop hunt’ their trade. So to beat the market and their broker,
they don’t set one.
We are huge believers of stop losses here. We never place a trade without one. With no stop loss,
your account is effectively 100% exposed. I know most high frequency traders are running on the
highest leverage possible. The high leverage is abused and high frequency traders over position for
their account size. One unexpected news releases could drive the account into a margin call.

Having no stop loss means you have to sit at the screen, monitor your trade, and manually close it.
High frequency trading approaches run the trader into a risk of getting caught up in re-quote errors
when the market is experiencing increased volatility. Have you ever tried to exit a trade during
intense periods of volatility? It’s not a position you want to put yourself in.

Sitting and staring at price charts is not healthy, and is going give you anxiety issues. Using no stop
loss is not smart trading. I can’t think of any real advantages of not using one. Your stop loss should
be placed at a point if which price crosses, the trade is considered a failure and you no longer should
be in the trade.

HIGH ON EMOTION
High frequency trading systems are very emotional fuelled ventures and attract those looking for a
massive adrenaline rush. Short term traders can be so disconnected from discipline. Even to the
point where most of their trading decisions are just based off‘gut-instinct’.

With each position opened, there is a lot at stake for such minute profits. High frequency trading
methods can put a high level of importance on each trade. Traders become highly fixated to the
success of one position. Why? Because a loss is too much of a hit to take. I’ve seen high frequency
traders who hold positions open at -100 pips. Mostly because they are stubborn, won’t admit
they’re wrong, but the main reasoning is because they are waiting for the market to turn around and
hit their 5 pip profit target.

When the trade is finally closed off, guess what comes next? The revenge trade, which never ends
well. The constant chasing of price, running high on emotions gives a trader a mind-set they’re
‘fighting the markets’.

It’s common knowledge that emotions and trading create quite a dangerous cocktail. You’re not
doing yourself any favors by using a high frequency trading system that can easily power up these
emotions to destructive levels.
The market takes no prisoners. When a trader breaks under pressure and shows their emotional
cards. The market will exploit these emotions and play them against the trader. The only thing
consistent between losing traders is emotional pain, so why using a trading system that makes a
trader susceptible to such risks?

OVER TRADING
High frequency trading is one of the most demanding of all the trading styles. Most traders are
unhappy with the amount of money they are making compared with the unlimited money making
money potential of the market. So they believe they can remedy this problem by trading as much as
they can. This is where an attraction to high frequency trading strategies is born.

Overtrading is a massive problem for short term traders. If they’re already opening and closing
trades at high frequency, what’s another trade or two, what’s another 20? This encourages the
gambling mindset when the trader is no longer thinking probabilities, but trading purely from greed,
boredom, desperation or overconfidence. Your attitude towards the market is going to define you as
a trader. You think you’re chasing money, but in reality, the only thing you’re chasing is your own
tail.

CHART PARALYSIS
Most short term – high frequency trading system templates I’ve seen are quite heavy on the
indicators. Quite a few of them actually require you to monitor multiple time frames at once. I know
those images of multiple trading screens, flashing Forex indicators and rolling price feeds looks
exciting to the new trader, but it’s far from practical when it comes to your trading performance.

More data, or more analysis will NOT create more of an ‘edge’ for you in the markets. In fact, it will
do quite the opposite. All the extra variables you bring onto your charts are only going to make it
harder for you to execute clear minded, logical trading decisions. Most of the time, the extra
variables you do bring onto the charts will often conflict with one another. You’re creating your own
trading environment nightmare.

This is why we are such big fans of trading with price action on naked price charts. The clarity you get
in un matched with any other trading system, and that’s why it is the most successful trading
methodology in this industry.
CONCLUSION
There is one winner out of all this, and that’s your broker. Brokers advantage from high frequency
trading so much, they will even encourage you to do it. Brokers earn spreads on each trade you
place, regardless if it’s a winner or a loser. The sad thing really here is, the broker will sometimes
earn twice the amount from a trades than the high frequency trader does. Swing traders like us War
Room Traders don’t have to worry about spread. Even an expensive spread like 10 pips is not going
to effect a trade much that has an expected return of 150 pips.

Despite what you read in the trading forums, high frequency trading does by any definition offer the
means to a smooth, risk free path to greater profits. It’s very demanding mentally and physically,
takes up large amounts of your time and can have a negative impact your life. In our article: do 95%
of traders lose money?, we show evidence that the majority or losing traders are in fact the traders
using high frequency trading strategies.

Before you start trading with real money make sure you check out our Forex trading checklist. Also
remember. Scalping, day trading or any other high frequency strategy may appear as ‘smart
investing’ but it’s only clever wording that is designed to target your emotions and encourage you to
hand over your hard earned money.

I hope today’s article has highlighted the dangers of high frequency trading. If you enjoyed the
article please help us spread the word and share the article using the buttons below. I wish you a
profitable trading week.