Swing Trading: What It Is & How It Works

Updated: May 09, 2022Written By: Kent ThuneReviewed By:

Swing trading is a short-term investment strategy aiming to profit from swings in an asset’s price. While this style of trading can be profitable, it also has its drawbacks.

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What Is Swing Trading?

Swing trading is a trading strategy that follows short-term trends to achieve gains in a stock or other investment security. Rather than attempting to get in and out of a trade in a day, or invest for the long term, a swing trade will typically take place over the course of more than one day and up to a few months.

How Swing Trading Works

The process of swing trading involves capturing a part of an expected price move over a few days or several weeks, rather than larger gains over longer periods of time. To do this, a swing trader may target a certain price point and utilize a stop loss order for execution. The trader may also use technical analysis to anticipate price moves in hopes of earning profit.

After realizing profit from an anticipated price movement, the swing trader moves on to identify the next opportunity. The idea behind swing trading is to capture multiple small to medium wins, which can add up to one big total return.

Tip: Swing traders often look for their swing trading opportunities among widely traded large-cap stocks or exchange-traded funds that show a tendency to swing within broad, well-defined channels. Swing traders may also maintain a list of stocks and ETFs to monitor on a daily basis. This can help the trader to become familiar with price movement trends of the selected opportunities.

Swing Trading Strategies

Swing trading strategies primarily employ the use of technical analysis, which attempts to predict future price movements from an investment security's historical activity. Swing traders may watch for a change in price direction, trade on weakness, or look for certain technical patterns.

Examples of swing trading strategies are:

  • Change in price direction: After the market has confirmed a change of direction in price, the swing trader may buy on expected positive momentum.
  • Trade on weakness, sell on strength: If an investment is trading on the lower end of its trading channel, the swing trader may buy on the perceived weakness.
  • Technical patterns: Swing traders experienced in technical analysis may use specific multi-day chart patterns for cues to enter and exit positions.

Swing Trading Tools

Traders, including swing traders, may use charts and tools, such as moving averages, momentum indicators, candlestick charts, and market sentiment indicators. Traders may also use aids, such as stock charts, charting software, technical analysis websites, and trading books, magazines, and blogs. Seeking Alpha's advanced charts (powered by TradingView) also offer various technical analysis tools which such traders may use in the process.

Pros & Cons of Swing Trading

Swing trading, like other styles of trading, has its advantages and disadvantages. If good opportunities can be identified, and losses can be minimized with successful stop loss techniques, swing trading can be profitable. But swing trading has its unique risks and drawbacks.

Pros of Swing Trading

  • Profit potential: A trader can potentially maximize gains by taking advantage of short-term price movement, or swings in price.
  • Simplicity: Swing trading can take less time than day trading and it can be more simple than investing that involves fundamental analysis.

Cons of Swing Trading

  • Market timing: Capital markets tend to behave more randomly in the short term, compared to the long term, which makes the timing of the swing trades more challenging.
  • Market risk: Swing trading can amplify market risk, due to the relative unpredictability of capital markets in the short term.

Swing Trading Example

For an example of swing trading, let's say an investor has been tracking performance of a widely traded stock ETF. The investor observes the performance in a bar chart and the trend has shown an upward movement within a trading channel, with bottoms that tend to be short and sharp.

To set up the swing trade, the investor buys shares of the ETF and places a protective stop loss order for a price slightly above the recent bottom price trends. The swing trader then monitors the ETF with the plan of exiting the trade near the upper channel line. Once the price reaches the planned exit point, the swing trader sells the shares of the ETF to lock in gains.

Tip: Multiple methods and tools can be used for swing trading. What's important for the swing trader is to always have a plan for entry and exit, and to use methods that they are comfortable working with.

Swing Trading vs. Day Trading

The main difference between swing trading and day trading is the holding period: swing trading may range from several days to several weeks, whereas day trading positions are typically limited to a single day. Other differences are associated with position sizes, use of margin, trading frequency, and costs.

Differences between swing trading and day trading are:

  • Holding period: Positions for swing trades are often held for several days and up to several weeks, whereas day trading positions are executed within a single trading day.
  • Position size: Because of the overnight risk, swing traders often take on smaller positions than day traders.
  • Use of margin: Swing traders may utilize margin or leverage of 50%, whereas day traders are limited to 25%, as set by FINRA.
  • Trading frequency: Swing trading typically requires less frequent trades than day trading.
  • Costs: Primarily due to lower trading frequency, swing trading generally costs less than day trading.

Bottom Line

Swing trading can be a profitable and accessible way for an investor to get into trading. However, compared to standard stock or ETF investing, the relative complexity involved with a swing trading strategy is not well-suited for amateur investors.

FAQ

  • The word swing refers to the swinging movement between the price highs and lows for investment securities. A swing trader will monitor these fluctuations, or "swings," to determine his/her strategy.

  • Swing traders may track trends in performance, momentum or volume. Some indicators used in swing trading include relative strength index, moving average, trading volume, and Bollinger band.

  • Although there is no account balance required for swing trading, a general rule that swing traders follow is to have at least $5,000 to $10,000 available for trading. This is because most swing traders avoid risking more than 1-2% of their account balance, but tend to aim for at least $100 per trade.

     

This article was written by

Kent Thune profile picture
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Kent Thune, CFP®, is a fiduciary investment advisor specializing in tactical asset allocation and portfolio management with a focus on ETFs and sector investing. Mr. Thune has 25 years of wealth management experience and has navigated clients through four bear markets and some of the most challenging economic environments in history. As a writer, Kent's articles have been seen on multiple investing and finance websites, including Seeking Alpha, Kiplinger, MarketWatch, The Motley Fool, Yahoo Finance, and The Balance. Mr. Thune's registered investment advisory firm is headquartered in Hilton Head Island, SC where he serves clients all around the United States. When not writing or advising clients, Kent spends time with his wife and two sons, plays guitar, or works on his philosophy book that he plans to publish later in 2022.

Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

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