What is Swing trading?

Swing trading is a trading style used by those traders looking to take advantage and potentially profit from short to medium-term price ‘swing’ movements in the market.

This type of trading style falls between day trading and position trading, where day traders open and close positions within a single trading day and position traders open a position and hold it for a couple of months up to a year. Swing traders keep their positions open for a few days to weeks.

Swing traders typically use a combination of technical and fundamental analysis in order to make trading decisions. Technical analysis is used to determine where the price swings occur and possible entry and exit positions.

On the other hand, fundamental analysis is used to gain a broader perspective on a financial instrument’s financial health and keep up to date with news and economic news events.

This style of trading can also be used over various financial markets, such as stocks, forex, commodities, and indices and due to the nature of larger profit targets, traders can implement this trading style on financial instruments with a bigger spread and lower liquidity.

In swing trading, traders can trade both rising and falling markets, as most traders trade the market through derivative products such as CFDs and spread betting.

Swing trading works by identifying swing highs or lows, entering a position on those swing highs or lows, and exiting when their desired profits have been reached or when the market has reached a new swing high or low.

So, in an uptrend, a trader would enter a buy (long) position at the recent swing low and exit at the next swing high. And when the market is in a downtrend, they would enter at the recent swing high and exit at the next swing low.

It might be difficult to precisely identify the exact swing high or low in a price trend. However, traders might generally miss the exact swing high or low and only enter after the high or low as formed, as it could take time to confirm whether it is an actual swing high or low.

As previously mentioned, swing traders combine technical and fundamental analysis. With technical analysis, traders could use a combination of indicators to assist in identifying a possible trend, entry points, or trend reversals.

Below are three of the most popular indicators used by swing traders.

Moving averages

Moving averages are one of the most popular indicators used by swing traders. Moving averages work by taking the closing price data of an asset over a certain period of time and presenting that information in the form of a line.

For example, if you look at the 200-day moving average, it takes the closing price of the last 200 days, adds those prices up, and divides it by 200 to get the average price.

The data will then be assembled to form a single line for a trader to better understand the overall trend movement.

Moving averages generally confirm a trend but do not identify it because it’s a lagging indicator, moving slightly behind the market’s current price.

In theory, if the moving average is below the price, it indicates the trend is upward, and conversely, if the moving average is above the price, it indicates a downward trend.

The most common strategy used with moving averages is the crossover strategy between two moving averages. The first moving average could be a 50-day moving average, and the second one could be a 200-day moving average.

This strategy works by looking for potential crossovers, either from the downside or the upside. If the 50-day moving average crosses the 200-day moving average from below, it’s called a golden cross and could signal a possible change in the trend. 

On the other hand, if the 50-day moving average crosses the 200-day moving average from above, it’s called the death cross and could signal a possible change in the trend.

Relative strength index

Once a trend has been established, a trader could use a momentum indicator to potentially identify possible swings in the overall trend. One indicator that traders could use is the RSI (Relative Strength Index), which swing traders could use to try and identify overbought and oversold areas in the market.

The RSI, which could also be classified as an oscillator, has a range spanning from zero to 100 with two lines, one at 70 and another at 30.

This indicator helps traders identify areas where the price could be seen as overbought or oversold.

If the line (price) is above the 70 mark, it’s considered overbought; if the line (price) is below the 30 mark, it’s considered oversold.

Traders could look for possible long (buy) entry points when the price is below the 30 mark and possible exit points when the price reaches the 70 mark. For potential short (sell) entry points, traders could look for when the price is above the 70 mark and possible exit points for when the price reaches the 30 mark.

Stochastic Oscillator

The stochastic oscillator is much the same as the RSI, meaning it’s also a momentum indicator indicating overbought and oversold areas. However, there are some differences.

The stochastic oscillator takes the most recent closing price and compares it to the previous trading range over a period of 14 days. Apart from this being a momentum indicator, it’s also seen as a leading indicator because market momentum generally changes ahead of volume or the price itself.

By using this indicator, a trader could potentially predict the swings in the market.

Within the stochastic, there are two moving lines: the first one is the indicator line, which is generally presented with a solid white line, and the second one is the signal line, which is generally presented as a solid red line.

These two lines move between a range of 0 to 100 with two horizontal lines, one set at the 80-level mark and the other at the 20-level mark. 

Theoretically, if the indicator line and the solid line are above the 80 mark, the market might be overbought. Conversely, if these two lines are below the 20-level mark, the market is considered to be oversold.

That’s not all, though; traders could also look for possible market reversals using this indicator. It states that if the two lines crossover each other, it could indicate a possible market reversal, much like the moving averages we saw earlier.

The way it works is when the indicator line crosses above the signal line at or below the 20-level mark; it could be a possible signal to open a buy (long) position. Meanwhile, if the indicator line crosses below the signal line at or below the 80-level mark, it could be an indication to open a possible sell (short) position.

Much like the indicators, there are many different strategies to choose from when deciding to swing trade. 

Below, we put together a detailed description of the six most popular strategies traders could decide to use. Some strategies could also be combined with each other.

Trend trading

One of the most commonly used strategies in swing trading is trend trading, where traders try to take advantage of swing highs or lows, depending on market conditions.

If a trader is looking to enter a long (buy) position, they could enter at the recent swing low, predicting that the price will make a new swing high, placing a stop-loss order below the sing low and a profit target above the previous swing high.

In a short (sell) position, the opposite will be true, where a trader could enter at the recent swing high, predicting that the price will make a new swing low, placing a stop-loss order above the swing high and a take-profit target below the previous swing low.

It could be challenging to identify the exact swing high or low, which is why most traders use a variety of technical analysis indicators such as the moving averages and RSI Relative Strength Index) to assist in identifying those possible swing highs or lows.

They could also look for certain candlestick patterns at those swing highs or lows for further confirmation that the market will continue the current trend.

Price action strategy

Price action trading strategies are candlestick patterns and chart patterns used to identify recurring patterns by looking at historical price data, which could be potential indications for trading opportunities. 

Candlestick patterns and chart patterns could be used together or on their own.

• Candlestick patterns: These patterns can range from a single candle to three different candles, which could signal various potential trading opportunities. These candlestick patterns could be a bullish or bearish signal for market continuation or reversal, depending on the candlestick’s location on the chart. Some of the popular bullish candlestick patterns include the hammer, inverse hammer, bullish engulfing, or morning star pattern. And some popular bearish candlestick patterns include the shooting star, hanging man, bearish engulfing, or evening star.
• Chart patterns: Swing traders generally look for continuation or reversal chart patterns. An example of a continuation pattern could be a bullish flag pattern, which forms after a strong uptrend and is a brief pause in the market, with prices slopping downwards for a moment before breaking out and continuing the trend. A bearish flag pattern is the opposite, sloping upwards in a downtrend before continuing downwards. An example of a reversal pattern could be a double top or double bottom indicating that the price has failed to break the previous high (in a double top) or low (in a double bottom), which presents that buyers or sellers, depending on the trend, is losing momentum and a reversal could occur.

Support and resistance trading

Support and resistance are one of the core tools used in technical analysis. These levels show how supply and demand play out in the market and can assist in potentially predicting the future price movement of an asset.

One of the more popular market trends to use support and resistance zones is in ranging markets when prices are consolidating. 

Support zones are formed by price retesting the previous low points in the market, failing to break below the previous low. And resistance zones are formed when the price retests the previous high points in the market, failing to break above the previous high.

Price could decline from resistance (supply) zones or rise from support (demand) zones.

Swing traders could open a long (buy) position when the price bounces off a support zone, placing a stop-loss order some distance below the support zone with a potential profit target around the resistance zones.

Similarly, traders could open a short (sell) position when the price bounces off a resistance zone, placing a stop-loss order some distance above the resistance zone with a potential profit target around the support zone.

In some cases, the price could break out of one of these zones. If the price breaks out of a resistance zone, that becomes future support, and if the price breaks below support, that becomes future resistance.

In the next section, we’ll go into more detail regarding breakout trading.

Breakout trading

As mentioned above, a breakout trading strategy is used by swing traders to capture a breakout above resistance or below support. They try to capture this breakout as soon as possible, hoping to follow the potential trend.

In order to analyse where and when a breakout could potentially occur, swing traders could look at how strong or weak market momentum is by using a volume indicator or the moving averages.

For possible entry points, swing traders could use candlestick patterns such as the bullish or bearish engulfing pattern, which could indicate the strength of the breakout.

Reversal trading

Reversal trading is based on a shift in market momentum, indicating a change in the price direction of an asset when the price of an asset loses momentum, while in an uptrend, the price could begin to fall. And, if the price of an asset loses momentum while in a downtrend, it could begin to rise.

There are two indicators that we mentioned earlier that could be used together with this strategy: the RSI and/or the Stochastic Oscillator. 

By using one of these two indicators, traders could look at when the market has reached an overbought or oversold area, which could assist in providing information on whether there could be a reversal in the market.

For further confirmation, a trader could look for various reversal candlestick patterns when the RSI or Stochastic has reached overbought or oversold areas while the market is trending.

Retracement trading using Fibonacci

Retracement trading means identifying areas where the price pauses briefly before continuing the current trend. Reversals could be difficult to predict, which is why some traders generally use the Fibonacci retracement tool to assist in predicting possible retracements as well as possible entry and exit points.

The Fibonacci retracement tool works by having a trader draw two lines, starting at the highest point of interest and moving to the lowest point in an uptrend, and vice versa for a downtrend.

Within the tool itself, there are six lines; the first line is marked with 100%, the middle line is marked with 50%, and the bottom line is 0%. The remaining three lines are 61.8%, 38.2%, and 23.6%.

The premise behind the Fibonacci retracement tool is that it follows the golden ratio, which occurs at 61.8%, 50%, 38.2%, and 23.6%. These levels are areas of interest and could be possible entry signals. These levels could also act as potential support and resistance levels.

When the price reaches one of these levels, a trader could look at possible entry points; for example, if the trend is upwards and the price retraces down towards 61.8% and 50%, traders could open a long (buy) position, putting a stop-loss order at the 38.2% or 23.6% depending on their risk-reward ratio, with a profit target above the 100% line.

If a trader is looking to open a short (sell) position, the same principle applies; the only difference is the 100% line will be at the bottom, and the 0% line will be at the top.

There are also cases where traders could use continuation chart patterns instead of the Fibonacci retracement to look for potential retracements in the market, such as the flag or pennant pattern.

Below, you’ll find a list of some of the advantages of swing trading.

• Swing trading is less time-consuming because swing traders generally trade on higher timeframes. They won’t have to monitor their trades continuously. This could benefit those traders who don’t have a lot of time to look at the charts. The time they do spend on the charts will mainly be for analysing the markets and placing various orders such as market orders, take-profit, and stop-loss orders.
• Since swing trading is less time-consuming, most traders are less likely to become stressed as they don’t have to monitor the charts all day.
• Swing trading on a higher timeframe will also allow traders to cut out much of the noise that is more present on lower timeframes. It could be more difficult to rule out wrong signals from good ones on a lower timeframe than on a higher timeframe.

Now, let’s have a look at some of the disadvantages of swing trading.

• There are always unexpected risks involved in trading, and swing trading is no different. Since swing traders keep their positions open for a couple of days to weeks, they could be at risk when an unexpected event occurs, which could possibly cause the price of an asset to fluctuate significantly or even reverse, possibly triggering their stop-loss.
• There is also the risk of overnight fees accumulating over time, as swing traders keep their positions open much longer.
• Many swing traders don’t have time to monitor the markets constantly, compared to day traders, and because of this, they might miss potential trading opportunities.

The biggest difference between swing trading vs day trading is how long a trader keeps a position open. With day trading, positions are opened and closed within a couple of minutes to hours, rarely keeping a position open overnight.

In swing trading, however, a trader opens a position and only closes it after a couple of days or weeks.

Day traders are more inclined to monitor their charts daily, looking for opportunities in volatile market conditions to try and make small but frequent profits, focusing more on technical analysis.

Swing traders, on the other hand, will spend most of their time analysing the charts and placing orders according to their trading plan; once they’ve done that, they might only have to look at their charts in a couple of days, depending on their analysis and on how long they might want to keep a position open.

Swing traders are more likely to use a combination of technical and fundamental analysis, as they might want to stay up to date with important news and economic events, which could influence the change in the price of certain assets they might want to trade.

As mentioned, both these trading styles use technical analysis to analyse their charts and look for potential entry and exit points.

However, swing trading and day trading have a similarity: the opportunity to open long (buy) or short (sell) positions in the market because traders tend to use derivative products such as CFDs or spread betting, which allows them this flexibility.

The difference between swing trading vs position trading is also the time a position is kept open. Position traders might choose to keep their position open for a couple of weeks or months, sometimes up to a year, depending on their analysis and trading plan.

They tend to ignore short-term price fluctuations in the market and keep their eye on the long-term trend. They try to open their position as early as possible to ride the trend and might only choose to close it after they predict the trend has peaked.

Position traders will generally focus on financial assets with a strong trend direction with minimal price fluctuations.

Position traders, much like swing traders, also use a combination of technical and fundamental analysis. However, they might be a bit more focused on fundamental analysis in order to predict the overall financial health of a particular financial asset they might want to trade.

Swing trading and position trading do have some similarities; with both of these trading styles, trades can open long (buy), or short (sell) positions in the market as most trades tend to trade derivative products such as CFDs or spread betting, which gives them this flexibility.

Risk management is one of the most essential factors in any trading style. Risk management has many different aspects, such as the amount of risk per trade, meaning the amount of capital a trader might want to risk per trade they open.

Many traders might insist on risking no more than 1-2% of their overall trading capital on a single trade. In contrast, more aggressive traders might risk up to 5% of their overall trading capital on a single trade.

Stop-loss orders are another critical aspect of a risk management strategy because one of the overall goals of trading is trying to profit as much as possible while limiting losses as much as possible.

A stop-loss order is a predetermined level set up by a trader. Suppose a trader opens a position, and the market moves against them towards their stop-loss order and touches the predetermined level. In that case, the trade will automatically close at market price, limiting their losses.

By determining their risk-to-reward ratio, a trader might have a better indication of where to place their stop-loss orders.

The reason why risk management is essential in swing trading, especially with placing stop-loss orders, is because many swing traders might not monitor their trades on a daily basis, so if an unexpected event occurs and the market reverses from its current trend and moves against them, their stop-loss could protect them from sustaining significant losses to their account.