Scaling in and out

 First of all what is scaling. Scaling is when instead of taking a big position you take a smaller position and after that you add to the position or you reduce the position partially. Why would somebody want to do that? Well let first talk about scaling in.

Scaling in

Some traders aren't sure about their entries so instead of taking a position they take a smaller partial position. Because they take a smaller position the risk is also smaller making them more comfortable with their entry. After they have taken a small position they wait and see what the price does. There are 2 ways traders can use this scaling method. First of all they can add to their position if they see that the price is going into the right direction. Using this method the position size increases step by step the further the price goes in the expected direction.

So when a trader has a long he increases his position size when the price goes up. It is common know between traders that it is a good thing to add to a winning position but there are some things to consider. First of all scaling in like this also increases also the average buy price of your total position. This means that when the price drops it will go quickly into loss compared to a trader who hasn't scaled in. Also it will hit the stop loss sooner so it actually increases the chance of having a loosing trade.

Another way to scale in (I don't advice anybody to trade like this) is adding to your position when the price is going into the wrong direction. A trader who does this hopes the price will reverse soon. In this case for example the trader has a long but the price is dropping. He hopes it will reverse soon and he lowers his average buy price by adding additional lots. Also calles adding to a loosing position. In this case when the price changes direction the position will go back in profit sooner compared to a trader who was long too but didn't add to his position. Although this seems to be good this is a recipe for disaster. Sooner or later the price will not reverse leaving the trader behind with a big loss.

Scaling out

The most common way of scaling out is to lower the position size when the price is going into the right direction. The trader takes a partial profit. In this way the trader has secured a part of the profit and he can still make additional profit if the price continues into the right direction. Often this is called a “free trade”. Although this seems to be a good thing this is actually a pretty bad way of trading. It is a common misunderstanding that this will reduce losses and increase profits. Why is this such a bad strategy? Well when the position is going into loss from the start you will have your maximum position size. When the price is going into profit you will have a smaller position size and a reduced profit.

Another way to scale out is to reduce your position size when the price is going into the wrong way. In this case the trader wants to keep his position but he wants to reduce the exposure and possible risk. This strategy is hard to understand. A trader who is trading like this has a to big initial position or is using a to small stop loss.

Although scaling out isn't a good exit strategy it is better than having no exit strategy at all. You would be surprised how many “beginner” traders have no exit strategy at all. So don't judge yourself if you are using the scaling out strategy! You are doing better than most traders who haven't got any strategy at all!