Swing trading is an approach to financial investing which aims to capture profits in stocks, forex, cryptocurrencies (or any other financial market asset) over time periods that span just a few days but may also extend to several weeks in time.
In many cases, swing traders will utilize fundamental analysis techniques in addition to their assessments of market trends and technical chart price patterns. However, swing traders tend to base their investment decisions on technical analysis strategies that identify new trading opportunities while they are still in their developing phases.
Swing trading primarily involves holding a position (short or long) for a period of time that extends beyond one market session but is usually not longer than a few weeks. Of course, this is just a general time frame and some swing trades may require longer holding periods (i.e. a couple of months). Ultimately, the market dictates the length of time that any position will need to be held. Thus, the practice of swing trading depends more on one’s approach and strategy than it does on one’s time frame.
The primary goal in any swing trading strategy is to find ways of capturing a significant portion of the market’s next price movement. Some swing traders seek out assets that are characterized by higher levels of volatility while others might prefer to focus on assets that are steady and slower moving. In either case, the process of swing trading requires us to identify the most likely direction of an asset's next major price move, find levels at which to enter a position, establish risk tolerance parameters using stop losses, and capture profits generated by a majority of the next price move. Swing traders that achieve repeated success follow these practices and make timely exits so that the market’s next opportunity can be discovered and a new trade can be executed.
Most successful swing traders are able to assess the market based on a clear risk/reward framework for each position. By analyzing an asset’s historical price chart, these traders can determine when to enter, where a stop loss should be placed, and how to establish an exit strategy that captures a profit.
For example, if an asset has the potential to yield gains of 3 to 1 in a long position, this would produce a risk-reward ratio of 3:1, which is generally considered to be a basic requirement in swing trading strategies. If a trade creates risk-reward scenarios that are less than 3:1, is it a good idea to pass on the trade and to look for other opportunities in the market.
Due to the relatively short-term nature of the positions involved in swing trading, it shouldn’t come as a surprise that swing traders tend to base most of their decisions on technical analysis. That said, there is absolutely nothing wrong with adding fundamental analysis techniques to your strategy.
For example, when swing traders spot a bullish setup on a price chart it is often a good idea to verify the underlying fundamentals in order to make sure they support further price growth in the asset. However, even the best fundamental analysis requires the ability to establish specific exit and entry points in each trade. Technical analysis offers the best solutions for this part of the process, and a balance chart analysis of any asset requires an assessment of more than one time frame.
For example, short-term swing traders might start by watching the 1-hour charts to get a sense of the market’s dominant trend. Once there is a clear indication that a sustainable trend is in place, swing traders will look for pullbacks (in an uptrend) or retracements (in a downtrend) as a suitable entry point for new trades.
Once the dominant trend is established, swing traders will then look at shorter-term time frames (for example a 15-minute chart) to find new pullback opportunities within the dominant trend.
Since the term “swing trading” encompasses a broad approach to the market, there are several different strategies which can be employed in its application. A few of the tactics often utilized by successful swing traders include:
In the following strategy examples, we will examine the ways swing traders combine some of these tactics to identify profitable opportunities in the market.
In our first swing trading example, we will look at a basic candlestick reversal signal. We will then work our way outward and identify ways to spot supportive technical analysis features visible in the market which might suggest new trading opportunities.
In the chart above, we can see a Gravestone Doji pattern which suggests upside price movement might be coming to an end. On its own, the Gravestone Doji can be a powerful candlestick pattern in terms of its ability to signal new swing trading opportunities.
However, this signal becomes stronger when we are able to identify supportive signals which indicate further evidence of a specific market outcome (in this case, a bearish swing reversal).
Taking a closer look at the same chart, we can see that the prior dominant move was bearish. In other words, the asset is already caught in a downtrend that indicates negative price momentum. At the same time, we can overlay a Stochastic RSI indicator against the chart history to give us an alternative view on the recent price activity visible in the asset. When this is done, we can see that an overbought bearish divergence has developed in conjunction with the Gravestone Doji on our original chart history.
This gives us enough evidence to initiate a swing trading short position on our chosen time frame. Stop losses on the position would be placed above the high of the bearish candlestick formation.
In our next trading example, we are able to identify a bullish swing trading scenario. In this case, a Bullish Engulfing candlestick pattern has developed in an area of prior price support. The combination of these two positive factors would be enough to allow us to initiate a long trade with stop losses placed below the outlined support levels (profit targets should be set at a minimum of 3x the risk tolerance on the position).
Next, we can see how Fibonacci Retracements can play a role in swing trading strategies. In this Bitcoin price chart, we can see that prices have retraced 50% of a prior downtrend and hit key price resistance levels at the same time. This confluence of historical resistance and Fibonacci price zones would allow us to initiate a short swing trade in Bitcoin (with stop losses placed above our resistance level).
In our next example, we can see a Bearish Engulfing pattern develop in the asset. As this occurs, we can see that the Relative Strength Index (RSI) has reached overbought territory and started turning lower. This combination of extended indicator readings and a candlestick reversal pattern would allow us to initiate a short swing trading position with stop losses placed above the high of the Bearish Engulfing candlestick formation.
Key distinctions exist when comparing day trading and swing trading. Specifically, swing trading will usually require positions to be held overnight whereas a day trader will generally close all positions prior to the end of each market session.
When holding onto positions overnight, swing traders are exposed to the added unpredictability that is associated with multi-session trades. For these reasons, swing traders will often use smaller position sizes (and reduced leverage) when compared to intra-day traders. Holding positions overnight also creates an additional need for protective stop losses on all trades.