What Is Swing Trading?
Swing trading is a style of trading that attempts to capture short- to medium-term gains in a stock (or any financial instrument) over a period of a few days to several weeks. Swing traders primarily use technical analysis to look for trading opportunities.
Swing traders may utilize fundamental analysis in addition to analyzing price trends and patterns.
Key Takeaways
- Swing trading involves taking trades that last a couple of days up to several months in order to profit from an anticipated price move.
- Swing trading exposes a trader to overnight and weekend risk, where the price could gap and open the following session at a substantially different price.
- Swing traders can take profits utilizing an established risk/reward ratio based on a stop-loss and profit target, or they can take profits or losses based on a technical indicator or price action movements.
What is Swing Trading?
Understanding Swing Trading
Typically, swing trading involves holding a position either long or short for more than one trading session, but usually not longer than several weeks or a couple of months. This is a general time frame, as some trades may last longer than a couple of months, yet the trader may still consider them swing trades. Swing trades can also occur during a trading session, though this is a rare outcome that is brought about by extremely volatile conditions.
The goal of swing trading is to capture a chunk of a potential price move. While some traders seek out volatile stocks with lots of movement, others may prefer more sedate stocks. In either case, swing trading is the process of identifying where an asset’s price is likely to move next, entering a position, and then capturing a chunk of the profit if that move materializes.
Successful swing traders are only looking to capture a chunk of the expected price move, and then move on to the next opportunity.
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Swing trading is one of the most popular forms of active trading, where traders look for intermediate-term opportunities using various forms of technical analysis.
Swing Trading and Technical Analysis
Identifying swing trading opportunities relies heavily on technical analysis techniques. One of the fundamental tools in a swing trader's arsenal is chart analysis, where patterns and trends are studied to anticipate future price movements. Chart patterns such as head and shoulders, double tops and bottoms, triangles, and flags can signal potential swing trading opportunities. We'll talk more about these later.
Another aspect of technical analysis for swing trading is the use of indicators. These mathematical calculations applied to price and volume data help traders gauge the strength and direction of a trend. Popular indicators among swing traders include moving averages, relative strength index (RSI), stochastic oscillator, and moving average convergence/divergence (MACD). For example, a swing trader may enter into a position when a stock's MACD hits a certain target, then the trader will sell that position if the MACD hits a different target.
Finally, support and resistance levels play a role in identifying swing trading opportunities. Support represents a price level where buying interest is strong enough to prevent the price from declining further, while resistance is a level where selling interest is strong enough to prevent the price from rising further. Swing traders often look for price to bounce off support or break through resistance as confirmation of a potential trade setup.
Advantages and Disadvantages of Swing Trading
Many swing traders assess trades on a risk/reward basis. By analyzing the chart of an asset, they determine where they will enter, where they will place a stop-loss order, and then anticipate where they can get out with a profit. If they are risking $1 per share on a setup that could reasonably produce a $3 gain, that is a favorable risk/reward ratio. On the other hand, risking $1 only to make $0.75 isn’t quite as favorable.
Swing traders primarily use technical analysis, due to the short-term nature of the trades. That said, fundamental analysis can be used to enhance the analysis. For example, if a swing trader sees a bullish setup in a stock, they may want to verify that the fundamentals of the asset look favorable or are improving.
Swing traders will often look for opportunities on the daily charts and may watch one-hour or 15-minute charts to find precise entry, stop-loss, and take-profit levels.
Pros
Swing trading requires less time to trade than day trading.
It maximizes short-term profit potential by capturing the bulk of market swings.
Swing traders can rely exclusively on technical analysis, simplifying the trading process.
Cons
Swing trade positions are subject to overnight and weekend market risk.
Abrupt market reversals can result in substantial losses.
Swing traders often miss longer-term trends in favor of short-term market moves.
Day Trading vs. Swing Trading
The distinction between swing trading and day trading is usually the holding time for positions. Swing trading often involves at least an overnight hold, whereas day traders close out positions before the market closes. To generalize, day trading positions are limited to a single day, while swing trading involves holding for several days to weeks.
By holding overnight, the swing trader incurs the unpredictability of overnight risk, such as gaps up or down against the position. By taking on the overnight risk, swing trades are usually done with a smaller position size compared to day trading (assuming the two traders have similarly sized accounts). Day traders typically utilize larger position sizes and may use a day trading margin of 25%.
Swing traders also have access to a margin or leverage of 50%. This means that if the trader is approved for margin trading, they only need to put up $25,000 in capital for a trade with a current value of $50,000, for example.
Swing Trading Tactics
A swing trader tends to look for multiday chart patterns. Some of the more common patterns involve moving average crossovers, cup and handle patterns, head and shoulders patterns, flags, and triangles. Key reversal candlesticks may be used in addition to other indicators to devise a solid trading plan.
Ultimately, each swing trader devises a plan and strategy that gives them an edge over many trades. This involves looking for trade setups that tend to lead to predictable movements in the asset’s price. This isn’t easy, and no strategy or setup works every time. With a favorable risk/reward, winning every time isn’t required. The more favorable the risk/reward of a trading strategy, the fewer times it needs to win to produce an overall profit over many trades.
Real-World Example of Swing Trading
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Using a historical example, the chart above shows a period where Apple (AAPL) had a strong price move higher. 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 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—or, thought of another way, a 12% profit in exchange for less than 3% risk. This swing trade took approximately two months.
Other exit methods could be when the price crosses below a moving average (not shown), or when an indicator such as the stochastic oscillator crosses its signal line.
What Are the 'Swings' in Swing Trading?
Swing trading tries to identify entry and exit points into a security on the basis of its daily or weekly movements between cycles of optimism and pessimism.
How Does Swing Trading Differ from Day Trading?
Day trading, as the name suggests, involves making dozens of trades in a single day, based ontechnical analysisand sophisticated charting systems. Day trading seeks to scalp small profits multiple times a day and close out all positions at the end of the day. Swing traders do not close their positions on a daily basis and instead may hold onto them for weeks, months, or even longer. Swing traders may incorporate both technical and fundamental analysis, whereas a day trader is more likely to focus on using technical analysis.
What Are Some Indicators of Tools Used by Swing Traders?
Swing traders will use tools like moving averages overlaid on daily or weekly candlestick charts, momentum indicators, price range tools, and measures of market sentiment. Swing traders are also on the lookout for technical patterns like the head and shoulders or cup and handle.
Which Types of Securities Are Best Suited for Swing Trading?
While a swing trader can enjoy success in any number of securities, the best candidates tend to be large-cap stocks, which are among the most actively traded stocks on the major exchanges. In an active market, these stocks will often swing between broadly defined high and low points, and the swing trader will ride the wave in one direction for a couple of days or weeks and then switch to the opposite side of the trade when the stock reverses direction. Swing trades are also viable in actively traded commodities and forex markets.
The Bottom Line
Swing trading refers to a trading style that attempts to exploit short- to medium-term price movements in a security using favorable risk/reward metrics. Swing traders primarily rely on technical analysis to determine suitable entry and exit points, but they may also use fundamental analysis as an added filter.
Large-cap stocks make suitable swing trading candidates, as they often oscillate in well-established, predictable ranges that frequently provide long and short trading opportunities.
Swing trading offers advantages such as maximizing short-term profit potential, minimal time commitment, and flexibility of capital management. Key disadvantages include being subject to overnight and weekend market risk, along with missing longer-term trending price moves.
