This article provides you with a closer look at swing trading strategies and principles. It’s important to remember that swing trading is a risky investment strategy and it shouldn’t be an endeavor that’s taken lightly.
By studying and incorporating these swing trading tips and tricks into your existing market framework, however, you can gain a better understanding of what it takes to become a more successful swing trader.
1. Align Your Trade with the Market Direction
Start with the market's primary and intermediate trends (as measured by the S&P 500) which can provide the context for every trader to make short-term trading decisions.
If you only focus on the short term – even if your trade is successful for a limited time period – the larger trends are likely to reassert themselves. At best, your profit potential will be limited. You need to identify the longer-term trends to make sure you go with the flow (not against it).
"Surprises" such as news announcements, analyst upgrades/ downgrades, and earning hits/misses often occur in the direction of the larger trends. Traders should always be aware of where the S&P stands in relation to its longer-period moving averages (e.g. 40-, 30-, 10-week).
2. Long Strengths, Short Weaknesses
For example, assume there’s a bear market where the 40- and 10-week moving averages slope downward and the S&P is beneath both. Here, you should look for stocks to go short.
When possible, incorporating “Price Relative” to the S&P 500 into your chart analysis should tell you how the individual stock is performing in relation to the overall market. During bear markets, seek out stocks whose relative strength line is trending downward in relation to the S&P. Do the opposite during bull markets.
3. Trade in Harmony
Use moving averages to become attuned with both the short- and intermediate-term trends (even though swing traders focus almost exclusively on the short-term). However, this type of technical analysis will always end up being partial or limited because these traders aren’t able to see the big picture.
On the other hand, don’t focus exclusively on the primary trend when swing trading since there will be periods where the intermediate trend turns positive and stocks soar.
Fueled by short-covering, the S&P 500 and other major averages can climb 20% or more in a period of just several weeks during bear market rallies. Meanwhile, volatile stocks with high "betas" can move much, much more than this.
Even though you’re a short-term trader, it’s vital to know when the intermediate-term trend is changing (and when a countertrend rally is taking hold).
4. Get a Bigger Picture
Use your telescope as well as your microscope, because too small of a “look-back period” can be deceptive (and costly).
When analyzing a stock, a two-year weekly chart is ideal for looking at the bigger picture. To determine the overall trend, examine the shares in relation to a long-term moving average.
Next, direct your focus to the 6-month daily chart. Here, you’ll see finer details that the weekly chart obscures. Shorter-term moving averages can ascertain a stock's short-term trend.
Finally, hone in on the hourly chart to uncover the prevailing trend over the last few weeks. Moving averages are extremely helpful here.
Synthesize Your Data
While synthesizing all of this data, consider whether the stock is telling a clear, relatively unambiguous story. Are the shares breaking out from resistance or breaking down from support with confirmation from volume and other indicators (such as RSI)? Is this story sufficiently similar in all three time frames?
Remember that not all stocks communicate clearly. In fact, some remain in extended periods of sideways consolidation. A symmetrical triangle formation, for instance, is almost impossible to predict and trade. Similarly, an MACD that gives signal after signal within a short period of time is a highly unreliable indicator.
5. Swing Trades Are Better Near the Beginning
It's never too late to hop on the elevator, but the quicker you recognize a trend, the more profitable your trade will be (and the less risk you’ll assume). The most important step is to pay close attention to the overall market averages. When they’re overbought or oversold, they’re usually prone to reversal. When the market tests a major zone of support and resistance, it’s extremely useful to look at new highs, new lows, and the advance/decline line.
Most industrial/non-resource stocks like papers, metals, oil, and gold are highly correlated with the direction of the overall market. Therefore, when the market turns, they’re likely to turn as well. Candlesticks and momentum indicators (e.g. RSI and stochastics) are “early warning lights”that often anticipate or lead a turn in the stock
Conversely, trendlines and moving average crossovers are lagging indicators that simply confirm the message of the early warning signals. Depending on your willingness to take on risk, you can trade on either a leading or a lagging indicator. When both types of signals have been given, you can generally enter the trade with a higher probability of success.
Common Swing Trading Indicators
Researchers and analysts have developed a variety of indicators to detect when the broad market is prone to a reversal, including:
• The McClellan Oscillator
• The Arms Index
• The Volatility Index
• The Put/Call Ratio
6. While You're at It, Apply the Rule of “Multiple Indicators”
Highly profitable trades usually occur when all available technical tools offer the same message: The stock is about to rise or fall sharply.
There is no magic bullet for profitable trading the market, nor is there such a thing as “free money.” Technical analysis can only increase the probability of making a correct swing trading decision. Great trading opportunities, however, do have signatures. For starters, many indicators all give the same message within a short period of time (about 2-3 days).
7. Track a Consistent Group of Stocks
As a swing trader, it’s easy to move from hot stock to hot stock. While it’s okay to follow the action, you should stick to a core group of stocks that you track daily and learn to understand.
Use a variety of websites to look up analyst upgrades and downgrades, earnings reports, and overseas markets events, as well as the price of oil, gold, and the US dollar. Determine which stocks are active in pre-market trading and add several of these to your regular tracking screen.
Check a core group of regulars from a large variety of sectors – not just the volatile ones. Several times a week, look at their charts and make mental notes about breakout levels and prices at which they’d make good trades.
Tracking a comfortable number of stocks in a portfolio package, regularly checking the charts, following the news, and analyzing company fundamentals are some of the best swing trading tips out there.
8. Enter Swing Trading with a Clear Plan
While impulse buying can turn out to be profitable, without a clear plan, you’re simple gambling.
Before making the trade, establish a stop-loss for each one. If you’re not watching the market from day-to-day, set this stop-loss with your broker. If you’re watching it constantly, keep it as a mental stop – but be sure to execute it.
A trade might be going beautifully – you can almost feel the next price. You originally bought 1,000 shares and are thinking about between 200 and 500 more – but a sudden decline in the stock can quickly turn a healthy profit into a loss.
What Is the Biggest Loss I Should Take on Swing Trading?
As a general rule, the maximum loss we advise to take on any trade is 8% of the capital invested. If there is no technical analysis basis for limiting the stop-loss to this amount (usually a support level or nearby trendline), the market may be telling you that your trade is late.
Ask yourself: Are you selling because the stock is in a strong uptrend (but you’re concerned it will pull back)? If so, is there sufficient support to allow you to get back in comfortably? If the market continues higher, at what price would it be worthwhile to re-enter your original position?
9. Put the Odds in Your Favor
On good trades, your chart analysis should always show more upside possibility than downside risk. Don't risk a dollar to try to make a dime.
When you enter a trade, it should be based on your technical analysis. Select trades that provide strong profits if you’re correct but where potential losses are fairly limited. In general, a “sweet spot” occurs around 1.6-to-1 odds.
Market conditions can make this difficult. For example, toward the end of a large move in the overall market, a large part of the gain or decline in a stock may have already taken place. If possible, however, seek to find set-ups where you can meaningfully set a stop loss of 8% in order to capture a profit of 16%. If you can’t find those opportunities, look for potential 12% gains while risking just 8%.
Take Profits Before Your Targets Get Hit
If your analysis leads you to believe that your target will be exceeded, you may want to raise that target. The key to trading success – as many successful traders have proclaimed – is to cut losses short and let profits run. Unfortunately, many untrained swing traders let losses run and cut their profits short.
10. Integrate Fundamentals into Your Technical Analysis
As such, they can greatly benefit from a better understanding of each company's fundamental, inherent value using measures such as the PEG ratio to help determine value.
Technicians and fundamentalists seldom speak to one another, yet both forms of analysis can help one make more effective stock market decisions. If both forms of analysis are good, why would anyone believe that a combination of both isn't better? When used correctly, they’re supplemental and don’t contradict each other.
11. Don't Let Bad Trades Affect You Longer Than Necessary
Making a trading mistake can be painful: Not only does it often result in a loss of trading capital, but it can also hurt your self-esteem. Everyone makes mistakes, but regular technical analysis only increases the probability of making better decisions in the future.
Always treat bad trades as a learning experience. Was there something you didn't see on the chart that you should have? Did you enter the trade too late or set your stop too close? The winning trader is committed to improving over time.
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