Swing Trading Overview: How to Swing Trade

 

Here is an overview of how to Swing trading; Swing trading refers to the medium-term trading style that is used by forex traders who try to profit from price swings.

Its trading style requires patience to hold your trades for several days at a time. Swing trading stands between two other popular trading styles: day trading and position trading.

Swing traders identify a possible trend and then hold the trade(s) for a period of time, from a minimum of two days to several weeks. It suits those who can’t monitor charts all day but can analyze the market for a couple of hours each night.

Swing trading suits those with full-time jobs or school who can stay updated on the global economy in their spare time.

Swing trading strategies use fundamental or technical analysis to predict short-term price movements of currency pairs.

Essential elements of swing trading

Earlier, we have learnt the goals of swing trading, but ahead of commencing, it’s essential to go through some basic checklists. A few of those are explained as under:

Liquidity

Swing trading demands the trader can enter into or out from trades quickly. Therefore, it is crucial to enter trades only in liquid stocks.

Time frame 

This means swing traders must make use of higher time frames-hourly, daily, weekly, etc., to rightly gauge sentiments of the market. One-minute, five-minute, and fifteen-minute candlesticks are too short to assess the suitability of a trade. Day traders should ideally use short time frames, as they need to close all positions by the end of the trading day.

Volume 

Added to this, the number of shares traded becomes an active indicator on the charts. Any trend with high volumes is a good indication of the continuity of the trend.

For example, a price breakout from a range-bound zone with good volumes is a more potent indicator to traders for entry than a breakout accompanied by low volumes. Volumes act as a confirmation to the trade. Volume represents the market interest in a stock; more volume indicates market interest in the trend that the stock trades. If a stock falls on high volume, it indicates bearish sentiment, while a rise on high volume suggests bullish sentiment.

Entry & exit points 

A crucial aspect of swing trading is actively determining the entry point for a trade. Considering that the plan requires one to time the market for profits, it is vital that traders precisely choose entry points, based on their analysis from the chart. Most often, swing traders will enter a trade at pullbacks, this is because they intend to follow the trend after some retracement or at the lower/upper end of the band when trading a range-bound stock.

Risk reward ratio 

The risk to reward ratio is among the key necessities in any trading strategy. It is actually the target of the trader and represents the maximum loss that the trader wants to incur in the trade. Generally, swing traders trade with a 1:2 Risk-Reward Ratio or above.

Stop loss

Trading without a stop loss is a sure-shot way to blow up your account. Swing trading involves significant overnight risk as the trades are held for more than a day. Hence without a stop loss any runaway gap ups or gap downs can lead to significant erosion of capital.

As a thumb rule, traders must not risk more than 2% of their risk capital in a single trade.

Risk management

Risk management refers to the proactive measures traders take to safeguard their capital. This can be attained by doing a combination of three things:

Swing traders should exit their trades as soon as they hit the desired target or reach the stop loss. Greed of more price action in your favor or hope to recover losses can render the strategy useless and can lead to loss of capital beyond determined levels.

Trailing stop loss 

You should keep every profitable trade with a trailing stop loss. Imagine a trader who had entered a long trade in the stock of ABC Corporation at the Current Market Price of ₹ 100 with a stop loss at ₹ 95. Assume the stock travels in your favor to touch ₹ 115.

He should ideally sell the stock as the price target has been achieved. If the trader believes the stock has further upside, they can trail their stop-loss higher, first to breakeven and then further to lock in notional profits. The trader may also book partial profits as the target levels are achieved.

Consistency 

Once a strategy is developed and thoroughly backtested, it should be actively managed and not altered randomly based on tips or advice. Stick to the mantra to plan your trade and trade your plan!

For example, if a trader successfully uses moving average indicators on clear-trending stocks, they should stick with that strategy.

Blindly following strategies or indicators without understanding their setup, combined with execution inefficiencies, can lead to disastrous outcomes. Therefore, it’s always better to learn first, so we shall discuss some swing trading strategies in our next unit.

Common Strategies Used in Swing Trading

Swing traders use various strategies to identify and manage opportunities, often combining them before making trading decisions. Here are a few examples of some of the more popular technical charting techniques.

• Breakouts: These occur when prices either move above key resistance levels or below key support levels on charts. When a market continues to run into support or resistance levels, then finally moves beyond these levels, a breakout could portend an acceleration in the direction of the breakout.
• Moving averages: Swing traders will look at moving averages as possible catalysts for price to change direction near. Two of the more popular methods for using moving averages in this way are to use them as possible support and resistance levels, or as a moving average crossover system.
• Chart patterns: Patterns and formations are a key component of technical analysis, and swing traders will look for certain patterns to identify potential trading levels and timing dates. Chart patterns can be as simple as trendlines, but they also include geometric patterns. 
• Pivot points: Taking an average of the closing price, the high, and the low is a basic pivot point calculation. Swing traders use pivot points to identify potential support and resistance points. Pivot points help traders identify entry points and determine where to set stop levels.

Advantages of Using Swing Trading Strategies

The advantages of using swing trading strategies include maximizing short-term profit potential, and minimal time commitment. There is also some flexibility in capital management. 

If technical analysis is done right, good returns can be had in the short or medium term. This is an edge that swing trading has over longer-term trading. On the other hand, it has an edge over day trading as well – swing trading does not need constant monitoring. This is because the holding period is usually longer than a day. The time saved can be used to attend to other investment strategies.

Risks of Swing Trading

Swing traders are often at risk of weekend and overnight volatilities. Headline risks can significantly affect capital, especially if the news breaks while the market is closed. Relying on technical analysis and short-term investing can expose swing traders to the risk of missing out on longer-term trends.

Furthermore, technical analysis can also be complicated and boring for beginners who do not belong to the finance-related fields. It is advised that people should not invest more than 2% of their equities account capital in a single trade. On the other hand, there is also a 1% rule that says the loss on a single trade should not exceed more than 1% of your total capital. 

How to Know If a Swing Trading Strategy Is Working

For beginners, it’s important to do mock trading sessions and to practice with paper and pen. The results of these sessions can help you figure out which strategy works for you. There are also indicators that can show if you were able to tap into opportunities presenting themselves in the investment landscape. 

A positive result indicates that your strategy is effective. If opportunities are being missed, review your technical analysis to identify and address any issues.

These indicators help identify new opportunities, trends, and breakouts quickly to spot momentum. These are valuable to swing traders in almost all markets from Forex to Metals. 

Some of the important swing trading indicators are moving averages, volume, ease of movement, stochastic oscillator, and relative strength index or RSI.

It is also important to differentiate between a trend and a breakout here. The former is a longer-term trend with short-term fluctuations, while the latter, a breakout, signals the start of a new trend.

Frequently Asked Questions (FAQs)

What Is Swing Trading?

• Swing trading is a market timing strategy where traders speculate on the direction of market price over short-to-medium-term time frames, ranging from one day to a few months. The goal of a swing trader, like any trader, is to capitalize on price changes in the instrument being traded. Swing traders typically use technical analysis to find trading opportunities and set entry and exit points.

Is swing trading a good strategy to earn profit?

• Swing trading can expose traders to weekend and overnight risks. However, it can also open up opportunities to earn profits in a short period. But, it’s important to ensure you are following a good strategy.

A stop-loss option is crucial for minimizing losses, especially during sharp market moves.

What’s the Difference Between Swing Trading and Day Trading?

Swing trading and day trading both use price charts for entry and exit points, but they differ mainly in time frames.

• Holding period:  Day traders trade during trading hours and do not keep positions overnight, while swing traders take overnight positions that they hold for anywhere from two trading days up to a couple of months.
• Position size: Day traders often use large positions to capitalize on small price changes over very short periods of time, while swing traders take smaller positions that they hope to make larger, but still modest, profits on.
• Use of margin: Day traders have access to more margin for trading stocks and futures that allow them to take larger positions, while swing traders are limited in the relative size of their positions because they can only have 50% margin for stocks and are subject to both initial and maintenance margin for futures positions they hold overnight or longer.
• Trading frequency: Day traders trade in and out of the market frequently during the course of the trading day, while swing traders may only have a couple of positions on at a time, but hold them for days or possibly weeks.