Swing Trading Strategy
I wish to tell you that a Swing Trading Strategy is a fast and easy way to overnight profits and your first million. All the training courses and books promote the idea of successful swing trading leading traders to riches: “I’ve tried this swing trading technique and made more than $5,000 on one trade alone!”
However, the reality is different. Swing trading isn’t going to lead to overnight wealth. Period. Anyone who tells you otherwise is either lying or has made an incredibly risky but lucky trade. As a novice swing trader, you’ll produce market returns in line or slightly above the overall market. We agree with Scott who posted on Quora:
“I can tell you from first-hand experience as well as actual stats on how other Swing Traders perform that the vast majority will underperform the underlying stock index(es) at best and lose large amounts at worst.”
Table of Contents
In this blog post, we will introduce you to swing trading itself, swing strategies, and techniques without hyperbolizing potential returns. Let’s start from the very beginning:
1. What is Swing Trading?
Swing trading is a style of trading that attempts to profit from securities’ short-term price movements spanning a few days to a few weeks. Swing traders focus on taking smaller but more frequent gains and cutting losses as quickly as possible. This trading style is based on assumptions that market prices rarely move in a straight line and that traders can profit from entering and exiting trades at these swings.
Swing traders wait for low-risk opportunities and attempt to take a share of a significant market’s move up or down. When the overall market is riding high, they go long (buy) more often than they go short (sell). When the overall market is weak, they go short (sell) more often than they go long (buy). If there are no significant market movements, swing traders usually don’t trade and wait for new opportunities to arise.
2. How to Swing Strategy?
A swing trader utilizes technical and fundamental analysis, price trends, and patterns to find trading opportunities. Typically, swing trading involves holding a position, either long or short, for more than one trading session but usually no longer than several weeks. Swing trades can also occur during a trading session, though this is a rare outcome brought about by extremely volatile conditions.
Swing trading strategies often look for arising opportunities on the daily charts, which we will be discussing later in this article, and may watch 1-hour or 15-minute charts to find a precise entry, stop loss, and take advantage of market swings.
Ultimately, each swing trader devises a plan and strategy that gives them an edge over other traders. However, even for the best swing strategy, it is impossible to work every time, so favorable risk/reward must produce an overall profit over a longer period.
Many swing traders assess trades on a risk/reward basis. For instance, a profit factor of $3 is considered favorable risk/reward, while risking $1 to only make $0.75 might not be favorable risk/reward. To anticipate potential profits, traders analyze various charts and predict the best time to enter and where to place a stop loss.
To illustrate how swing trading works in real life, we’ve borrowed the following example from Investopedia:
Real-World Example in Apple Stock
The chart above shows a period where Apple (AAPL) experienced a strong trend. This was followed by a small cup and handle pattern which often signals a continuation of the price rise if the stock moves above the high of the handle.
In this case:
- The price does rise above the handle, triggering a possible buy near $192.70.
- One possible place to put a stop loss is below the handle, marked by the rectangle, near $187.50.
- Based on the entry and stop loss, the estimated risk for the trade is $5.20 per share ($192.70 – $187.50).
- If looking for a potential reward that is at least twice the risk, any price above $203.10 ($192.70 +(2 *$5.20)) will provide this.
Aside from a risk/reward, the trader could also utilize other exit methods, such as waiting for the price to make a new low. With this method, an exit signal wasn’t given until $216.46, when the price dropped below the prior pullback low. This method would have resulted in a profit of $23.76 per share—a 12% profit in exchange for less than 3% risk. This swing trade took approximately two months.
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3. Swing Trading vs Day Trading vs Buy-and-Hold
Swing trading is different from day trading or buy-and-hold investing. These types of investors differ in market approach, trading frequencies, and data sources. It is very important to understand the difference between these trading types to focus on aspects that are only relevant to swing trading. However, neither strategy is better than the other; traders should choose the approach that best suits their skills, risk level, and preferences.
Swing Trading vs Buy-And-Hold Investing
Buy-and-hold is a passive investment where an investor buys an asset and holds it for a long period regardless of fluctuations in the market. Buy-and-hold investors identify potential increases in the asset’s price and hold its ownership for a period of time. Buy-and-hold investors keep shares through bull and bear markets. Many legendary investors such as Warren Buffett and Jack Bogle praise this investing approach as ideal for individuals seeking healthy long-term returns. However, the majority of investors are affected by trading psychology and cannot take rational decisions in volatile markets. Thus, buy-and-hold portfolios tend to have a turnover rate below 20 percent.
Buy-and-hold strategy is not as time-intensive as swing trading and is often less risky and difficult. However, swing trading has a few advantages over the buy-and-hold strategy:
- Income stream: Buy-and-hold investors focus on long-term investments that might generate profits after a long period of time. Swing trading, on the other hand, might lead to instant profits (as well as instant losses).
- Diversified risk: Swing traders can hold a few securities across asset classes or sectors and generate higher profits than those who invest passively.
- Shorting possibility: Swing trading allows profit from price declines and excessive euphoria through shorting, which buy-and-hold investors simply cannot replicate. The essence of shorting is that it allows traders to profit from price declines as opposed to price increases. However, shorting involves excessive risks which, theoretically, are unlimited but the potential profits are limited to the amount traders short.
Swing Trading vs Day Trading
While day trading strategy can take place on several occasions in a single day, swing trading is based on identifying swings that take place over a period of days.
Day trading is better suited for individuals who are passionate about trading full-time and have an advanced understanding of technical analysis and charting. Therefore, day trading might be very stressful and intense, so trading decisions are often affected by trader psychology. However, day trading might work perfectly with algorithmic trading systems that allow avoiding the downside. If you are curious to learn more, we’ve prepared an ultimate guide about algorithmic trading using day trading strategies.
Swing trading, on the other hand, does not require such a formidable set of traits and full-time attention. Because of the longer time frame, which may take days to weeks as opposed to minutes to hours, a swing trader does not need to monitor trades full-time and take decisions so fast.
- Risk and Profits: Swing trading might result in higher profits than day trading, as the position is open for a longer period. However, positions held overnight also suffer from an increase in overnight margin requirements. Maximum leverage is usually two times one’s capital compared to day trading, in which margins are four times one’s capital. Additionally, swing trading might result in substantial losses, as the positions are held longer compared to day trading.
- Technical requirements: Swing trading can be done with just one computer and conventional trading tools. It does not require state-of-the-art technology as day traders use.
- Price movements: Day trading has the advantage of riding security price movements that can be quite volatile. This requires time-intensive devotion on their part. Near-term price movements can be driven by a major seller or buyer in the market and not by a company’s fundamentals.
For more detailed insights and advanced strategies on swing trading, visit Quant Savvy’s Algorithmic Trading Guide. For Market Analysis see: MarketWatch
