Swing Trading: What It Is and the Pros and Cons for Investors

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Swing Trading: What It Is and the Pros and Cons for Investors

What Is Swing Trading?

Investopedia / Madelyn Goodnight

Swing trading is a trading method in which the goal is to capture short- to medium-term profits in a stock (or any financial instrument) over a few days to several weeks. Swing traders hunt for trading chances largely via technical analysis.

Swing traders might use fundamental research in addition to price movements and patterns to make trading decisions.

Key Takeaways

  • Swing trading is entering deals that might last anywhere from a few days to many months in order to benefit from an expected price change.
  • Swing trading exposes a trader to overnight and weekend risk, since the price may gap and open at a significantly different price the next day.
  • Swing traders may benefit by using a risk/reward ratio based on a stop loss and profit objective, or they can profit or lose depending on a technical indicator or price action moves.

Understanding Swing Trading

Swing trading often entails keeping a position, either long or short, for more than one trading session, but no more than several weeks or a couple of months. This is a broad time range, since some deals may extend for many months and still be considered swing trades by the trader. Swing trades may also occur during a trading session, albeit this is an uncommon occurrence caused by exceptionally volatile market circumstances.

The purpose of swing trading is to profit from a prospective price change. Some traders enjoy turbulent equities with a lot of fluctuation, while others choose more calm ones. Swing trading is the act of determining where an asset’s price is likely to go next, initiating a position, and then collecting a portion of the profit if that move occurs.

Successful swing traders simply want to catch a portion of the projected price move before moving on to the next chance.

Swing trading is one of the most common types of active trading, in which traders use different kinds of technical analysis to hunt for intermediate-term opportunities.

Advantages and Disadvantages of Swing Trading

Many swing traders evaluate bets based on the risk/reward ratio. By evaluating an asset’s chart, they can predict where they will join, where they will put a stop loss, and where they will exit with a profit. It is a positive risk/reward ratio if they are risking $1 per share on a setup that may realistically deliver a $3 gain. On the other hand, risking $1 for a profit of $0.75 isn’t nearly as appealing.

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Due to the short-term nature of the deals, swing traders rely heavily on technical analysis. However, fundamental analysis may be employed to supplement the analysis. For example, if a swing trader notices a bullish setup in a stock, they may wish to confirm that the asset’s fundamentals are likewise positive or increasing.

Swing traders may often hunt for chances on daily charts and may also monitor 1-hour or 15-minute charts to discover exact entry, stop loss, and take-profit levels.

  • It requires less time to trade than day trading.

  • By catching the majority of market movements, it optimizes short-term profit potential.

  • Traders may depend only on technical analysis, which streamlines the trading process.

  • Overnight and weekend market risk affects trade positions.

  • Abrupt market reversals can result in substantial losses.

  • Swing traders sometimes overlook longer-term patterns in favor of short-term market movements.

Day Trading vs. Swing Trading

The holding period for positions is typically what distinguishes swing trading from day trading. Swing traders often maintain holdings overnight, while day traders close their positions before the market closes. Day trading holdings are often confined to a single day, while swing trading entails holding for multiple days to weeks.

The swing trader incurs the unpredictability of overnight risk, such as gaps up or down against the position, by holding overnight. Swing trades are often executed with a lower position size than day trades due to the overnight risk (assuming the two traders have similarly sized accounts).Day traders often employ higher position sizes and a 25% day trading margin.

Swing traders may also use a 50% margin or leverage. This implies that if the trader is accepted for margin trading, they only need to put up $25,000 in capital for a $50,000 deal, for example.

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Swing Trading Tactics

A swing trader searches for multi-day chart patterns. Moving average crossovers, cup-and-handle patterns, head and shoulders patterns, flags, and triangles are some of the most prevalent patterns. Key reversal candlesticks may be used in conjunction with other indicators to create a successful trading strategy.

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 in order to produce an overall profit over many trades.

Real-World Example of Swing Trade in Apple

Image by Sabrina Jiang © Investopedia2020

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 rises above the handle, indicating a potential purchase at $192.70.
  • A stop loss might be placed at $187.50, below the handle suggested by the rectangle.
  • The estimated risk for the trade is $5.20 per share ($192.70 – $187.50) based on the entry and stop-loss.
  • Any price over $203.10 ($192.70 + (2 * $5.20) will give a possible payout that is at least double the risk.

Aside from a risk/reward analysis, the trader might use various exit strategies, such as waiting for the price to reach a new bottom. This approach did not provide an exit warning until the price fell below the preceding pullback low of $216.46. This strategy would have resulted in a $23.76 profit per share. Consider this: a 12% reward in exchange for less than 3% risk. This swing transaction took over two months to complete.

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Other possible exit points are when the price falls below a moving average (not displayed) or when an indicator, such as the stochastic oscillator, crosses its signal line.

What Are the “Swings” in Swing Trading?

Swing trading seeks to discover entry and exit positions into an asset based on intra-week or intra-month swings between optimistic and pessimistic cycles.

How Does Swing Trading Differ From Day Trading?

As the name implies, day trading entails making hundreds of deals in a single day using technical analysis and advanced charting techniques. Day trading aims to scalp tiny gains many times each day, with no deals held overnight. Swing traders do not close their positions on a daily basis, but rather keep them for weeks, months, or even years. Swing traders will also use both technical and fundamental analysis.

What Are Some Indicators or Tools Used by Swing Traders?

Moving averages superimposed on daily or weekly candlestick charts, momentum indicators, price range tools, and market sentiment indicators will be used by swing traders. Swing traders search for technical patterns such as the head-and-shoulders and cup-and-handle.

Which Types of Securities Are Best-Suited for Swing Trading?

While a swing trader may find success in any number of assets, large-cap equities, which are among the most frequently traded stocks on the main exchanges, are the ideal choices. These stocks often fluctuate between clearly defined high and low points in an active market, and the swing trader will ride the wave in one way for a few days or weeks before switching to the opposing side of the trade when the stock reverses course. Swing trades are also possible in busy commodity and FX markets.

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