As different investors approach the stock market with a variety of objectives which ranges from investing long term and looking to create wealth over time, to trading for short-term benefits. Some people may adopt both strategies.
Unlike day trading, where trading is very fast, swing trading is slow. This strategy is a great way to understand market developments and dip your toe in technical analysis. This is what the curious trader should know.
What is Swing Trading?
Swing trading is a trading style that involves holding a position for a while ranging from a few days to a few weeks. It is a proactive trading strategy that captures fluctuations in swing market sentiment and allows you to enter and exit at key levels. Swing trading differs from day trading because you are more likely to hold your position overnight which can last for a few days or even weeks.
Swing trading strategies are usually driven by technical analysis. You can use your strategy in business sectors as well as in volatile market conditions.
When determining your swing trading risk and reward, your focus should be on a short time horizon. Before you decide whether swing trading is right for you, consider the many pros and cons of swing trading relative to day trading.
- You can spend less time on swing trading.
- It captures most of the up and down swings in price action.
- You can focus on technical analysis.
- You increase your risk by holding positions for a longer period.
- You can face sharp market reversals that generate losses.
- You cannot take advantage of day trading leverage.
Now that you understand some of the fundamentals of swing trading, let's move on to some of the concepts you would like to focus on to hone your skills as a swing trader. This includes how Swing Trading works and its strategies.
How Swing Trades Works
Swing trading attempts to capitalize on "swings" in the price of a security. Traders expect to capture smaller moves within a larger overall trend. Swing traders aim to capture a lot of small wins that add up to a significant amount of returns. For example, other traders may wait 5 months to make a 25% profit, while swing traders may make a 5% weekly profit and exceed other traders' profits in the long run.
Most swing traders use daily charts (like an hour, 24 hours, 48 hours, etc.) to choose the best entry or exit point. However, some may use shorter time frame charts, such as 4-hour or hourly charts.
Swing Trading Strategies
The Fibonacci Retracement pattern can be used to help brokers identify support and opposition levels, and hence conceivable reversal levels, on stock diagrams. Stocks will frequently follow a specific rate inside a pattern.
Traders often also look at the 50% level, even if it doesn't fit the Fibonacci design, since stocks tend to reverse after retracing half of the previous move.
A stock swing trader could enter a short-term sell position if the price retreats and bounces off the 61.8% retracement level (acting as a resistance level) in a downtrend, with the plan to take a sell position for profit when the price drops down to and bounced off 23.6% Fibonacci line (acting as a support level).
This swing trading strategy expects that you identify a stock that is showing a strong trend and trade within a channel. If you have plotted a channel around a negative pattern on a stock graph, you would consider opening a sell position when the prices bounce back below the top line of the channel. It's important to trade with the trend when using channels to swing-trade stocks, so in this model where the price is in a downtrend, you'll only be looking for sell positions - until the price breaks out of the channel. Moving higher indicates a reversal and the start of an uptrend.
Traders use the T-line on a graph to decide the best time to enter or exit a trade. Whenever security closes over the T-line, it means that the price will continue to rise. When the security closes below the T-line, it means that the price will keep on falling.
Mean Reversion Strategy
One of the most well-known technique types is mean inversion. In mean reversal, we accept that the market will in general perform exaggerated moves on either side, which are then right through reversal to the mean. That is, the market keeps swinging around its average.
When the market has gone too high, we typically say that it's overbought. Alternatively, when it moves too low, the market is oversold. The purpose of a mean reversal strategy is to identify when the market is either oversold or overbought to give us entry signals. This should be possible in numerous ways, but some of the most common ones involve using the RSI indicator or other oscillating indicators.
Trend Following Strategy
The trend-following strategy works in a contrary manner to the reverse strategy. While mean reversal suggests that an overbought market is likely to rebound soon, trend following strategies instead suggests that the market will continue in the direction of the momentum.
Momentum swing trading strategies work, but it's a lot harder to observe edges that depend on momentum logic than on average reversion. However, if you do observe one, it can help to diversify your portfolio, considering that you already trade an average reversion strategy.
Swing trading is a simple way for new traders to get their feet in the market, with traders typically starting around $5k-$10k, although less is acceptable. However, the cardinal rule is that this capital should be money that the investor can afford to lose. Even with the strictest risk management, the unexpected is always possible.
More importantly, swing trading doesn't request the same amount of active attention as day trading, so the swing trader can start slowly and build up the number of trades over time. But it requires the investor to dive deep into technical analysis, so an aptitude for charts and numbers is essential.
For traders willing to spend time researching stocks and developing an understanding of technical analysis, swing trading offers the potential to accumulate lucrative profits, slowly but steadily, over time.
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