Scaling in and out of trading positions refers to building and offloading your position incrementally as it meets certain milestones.

Scaling into a trade means you begin by initiating a partial position, say 25 shares of a 100 share target position.

If the market moves in your direction or shows favorable price action, you add another ‘layer’ to the trade, and now you have half of your entire position. Perhaps the stock moves up a bit more, and you decide to buy the other 50 shares. At this point, you’ve built your entire position in three buys rather than one buy. 

Scaling out works in the same way. Perhaps you sell one piece of your position into strength to immediately take some profits off the table and then set a trailing stop for the rest. 

So rather than buying or selling your entire position at once, you do it in smaller pieces.

This, of course, is just one way to do things and has its drawbacks and advantages, which we’ll get into in this article.

Why Do Traders Scale In and Out of Positions?

The answer comes back to one of the most fundamental principles of trading that you must accept if you want to be successful in this game: the market is not a game of chess that can be perfectly solved.

There’s a high degree of randomness present which can easily fool you into finding patterns within a cacophony of noise. 

In other words, there’s no 100% optimal price to buy/sell at. You just cannot know it. The best trading algorithms developed by the most brilliant quants in the world cannot even know it.

Because of this, even though your trade idea itself might be perfectly valid, the specific price at which you enter the trade is somewhat arbitrary.

And by putting arbitrary entry and exit constraints on our trading, we can miss some great opportunities due to inflexible trading rules.

For this reason, some traders choose to leg into their positions through several partial positions to get the “average price” of that trade setup and to give themselves an out if their initial entry was poor. 

So armed with the knowledge that no trade you make will be perfect, it might make sense to validate your trades before you put on full size. By entering a partial position and waiting for the market to confirm your trade idea further, you get a mulligan.

If the trade immediately goes bad, you only take that loss with a partially sized position. 

As a demonstration, let’s look at the Nvidia (NVDA) chart below.

 

We have a potential trend continuation setup; the stock made a significant upward swing and is now ‘taking a breather’ and settling into a tighter range. Suppose we wanted to buy near the bottom of the range highlighted on the chart.

One option would be to set a buy limit order at the bottom of the range, but what if the stock never touches the bottom of the range again and moves on without us?

You can argue that this is just the breaks of trading; we can’t break our trading rules. But other traders might view this differently. 

Other traders might put on a partial position around here, near the bottom of the range to see where the market goes, while leaving another buy order for another partial position at the bottom of the range. 

Pros and Cons of Scaling In and Out

Pros

The most significant advantage of scaling in and out of your positions is the added flexibility it can give you when trading.

Take the edge-case we demonstrated in NVDA in the previous section.

We reduce the number of trades we miss by scaling in and out because at least we get a piece of trades that take off and move before we can get fully positioned, rather than simply leaving us in the dust. 

This increased flexibility allows you to seize opportunities that, in the big picture sense, fit your trading setup but might not have met the exact quantitative criteria yet.

And because we know that the market is random, imperfect, and doesn’t conform to your models, it can make sense to seize such opportunities. 

There’s also a bit more freedom for execution imperfection, as you’re not entirely bound to the first price you get. In day trading especially, it’s easy to get caught up in the flow of trading and realize that you’ve missed a crucial factor.

These mistakes are much more costly when made in a full-sized position. 

Many traders also find that scaling in and out of positions brings an increased consistency to their trading. It gives them more time to observe the market and attain that heightened intuition you get when your money is actually on the line in a trade.

From there, you can decide if you want to push the trade further and potentially avoid some faulty trades. 

Cons

While one of the main advantages we’ve cited is that you might miss fewer opportunities, we have to look at the counterpoint to that, which is that the best opportunities might pass you by before you can get a full position on.

This tug of war between trying to minimize faulty trades at the cost of missing potential home runs is a bit of an adverse selection problem.

In a way, you’re excluding the very best trades (which work the fastest and go straight in your direction) from your trading results because you’re putting your position on in pieces.

For this reason, the question of whether or not to scale in or out of trades is not simple. 

Scaling in and out can also add potentially unnecessary complications to your trading, especially if you’re a novice trader. If you’re just getting used to executing trades, sticking to your stop losses, etc., trying to break one trade into several micro-trades can completely overcomplicate things. 

Potentially the most dangerous drawback is that scaling in and out gives you an out to make excuses for losses. It’s easy to weasel out of admitting you made a mistake by justifying it as putting on a ‘feeler’ position.

Scaling in doesn’t mean breaking your rules and trading everything in your sight just to get a feel for the market. 

Bottom Line

If you’re a trading podcast junkie, you’ll find that one of the most frequent game changers for day traders is switching from ‘binary’ positioning to scaling in and out of trades.

They often say that they don’t know precisely when the market will turn or how much further it will go, so they instead try to minimize the impact of their educated guesses and almost take an average of multiple guesses through scaling in and out. 

So while it can be a powerful trading technique, use it smartly and be aware of the drawbacks.

In the end, trading is as much art as it is science, so if something works consistently, stick with it.

Otherwise, don’t be afraid to trim the fat.