Swing trading
Encyclopedia
Swing trading is commonly defined as a speculative
activity in financial markets whereby instruments such as stocks, indexes, bonds, currencies, or commodities are repeatedly bought or sold at or near the end of up or down price swings caused by price volatility
. A swing trading position is typically held longer than a day
, but shorter than trend following
trades or buy and hold
investment strategies that can be held for months or years. Profits can be sought by engaging in either Long or Short trading.
or "trading system" which can be further defined as a calculable set of trading rules that uses either technical analysis
and/or fundamental analysis
and results in entry, exit, and stop loss trade price points.
Trading algorithms are not exclusive to swing trading and are also used for day trading
and long-term trading. Investment in researching trading algorithms/systems has skyrocketed, particularly by investment banking firms like Goldman Sachs
, which spends tens of millions on trading algorithm research and staffs its trading algorithm team more heavily than its trading desk.
Simpler rule-based approaches include Alexander Elder
's strategy, which measures the behavior of an instrument's price trend using three different moving averages of closing prices. The instrument is only traded Long when the three averages are aligned in an upward direction, and only traded Short when the three averages are moving downward. Trading algorithms/systems may lose their profit potential when they obtain enough of a mass following to curtail their effectiveness: "Now it's an arms race. Everyone is building more sophisticated algorithms, and the more competition exists, the smaller the profits," observes Andrew Lo, the Director of the Laboratory For Financial Engineering, for the Massachusetts Institute of Technology
.
Identifying when to buy and when to sell is the primary challenge for all swing trading as well as long-term trend following trading strategies. However, swing traders do not need perfect timing—to buy at the very bottom and sell at the very top of price oscillations—to make a profit. Small consistent earnings that involve strict money management
rules can compound returns significantly. It is generally accepted and understood that all mathematical models or algorithms will not always work with every instrument or in every market situation.
If, however, the stock goes to significantly outside the range, it is said to "break out
."
in general. Risk of loss in swing trading typically increases in a trading range, or sideways price movement, as compared to a bull market or bear market that is clearly moving in a specific direction.
Speculative
Speculative may refer to:*For economics usage, see Speculation*For usage in literature, see Speculative fiction*For philosophical usage, see Speculative philosophy and Speculative reason...
activity in financial markets whereby instruments such as stocks, indexes, bonds, currencies, or commodities are repeatedly bought or sold at or near the end of up or down price swings caused by price volatility
Volatility (finance)
In finance, volatility is a measure for variation of price of a financial instrument over time. Historic volatility is derived from time series of past market prices...
. A swing trading position is typically held longer than a day
Day trading
Day trading refers to the practice of buying and selling financial instruments within the same trading day such that all positions are usually closed before the market close for the trading day...
, but shorter than trend following
Trend following
Trend following is an investment strategy that tries to take advantage of long-term moves that seem to play out in various markets. The strategy aims to work on the market trend mechanism and take benefit from both sides of the market, enjoying the profits from the ups and downs of the stock or...
trades or buy and hold
Buy and hold
Buy and hold is a long-term investment strategy based on the view that in the long run financial markets give a good rate of return despite periods of volatility or decline. This viewpoint also holds that short-term market timing, i.e...
investment strategies that can be held for months or years. Profits can be sought by engaging in either Long or Short trading.
Swing trading methods
Utilizing a set of objective rules for buying and selling is a very common method used by swing traders because the rules eliminate the subjectivity, emotional aspects, and labor-intensive analysis of swing trading. The trading rules can be used to create a predictive market trading algorithmAlgorithmic trading
In electronic financial markets, algorithmic trading or automated trading, also known as algo trading, black-box trading or robo trading, is the use of electronic platforms for entering trading orders with an algorithm deciding on aspects of the order such as the timing, price, or quantity of the...
or "trading system" which can be further defined as a calculable set of trading rules that uses either technical analysis
Technical analysis
In finance, technical analysis is security analysis discipline for forecasting the direction of prices through the study of past market data, primarily price and volume. Behavioral economics and quantitative analysis incorporate technical analysis, which being an aspect of active management stands...
and/or fundamental analysis
Fundamental analysis
Fundamental analysis of a business involves analyzing its financial statements and health, its management and competitive advantages, and its competitors and markets. When applied to futures and forex, it focuses on the overall state of the economy, interest rates, production, earnings, and...
and results in entry, exit, and stop loss trade price points.
Trading algorithms are not exclusive to swing trading and are also used for day trading
Day trading
Day trading refers to the practice of buying and selling financial instruments within the same trading day such that all positions are usually closed before the market close for the trading day...
and long-term trading. Investment in researching trading algorithms/systems has skyrocketed, particularly by investment banking firms like Goldman Sachs
Goldman Sachs
The Goldman Sachs Group, Inc. is an American multinational bulge bracket investment banking and securities firm that engages in global investment banking, securities, investment management, and other financial services primarily with institutional clients...
, which spends tens of millions on trading algorithm research and staffs its trading algorithm team more heavily than its trading desk.
Simpler rule-based approaches include Alexander Elder
Alexander Elder
Alexander Elder, M.D., is a professional stock trader, living in New York. He is the author of Trading for a Living, Come Into My Trading Room and Entries & Exits, best-selling and well known among traders. First published in 1993, these books have been translated into Czech, Chinese, Dutch,...
's strategy, which measures the behavior of an instrument's price trend using three different moving averages of closing prices. The instrument is only traded Long when the three averages are aligned in an upward direction, and only traded Short when the three averages are moving downward. Trading algorithms/systems may lose their profit potential when they obtain enough of a mass following to curtail their effectiveness: "Now it's an arms race. Everyone is building more sophisticated algorithms, and the more competition exists, the smaller the profits," observes Andrew Lo, the Director of the Laboratory For Financial Engineering, for the Massachusetts Institute of Technology
Massachusetts Institute of Technology
The Massachusetts Institute of Technology is a private research university located in Cambridge, Massachusetts. MIT has five schools and one college, containing a total of 32 academic departments, with a strong emphasis on scientific and technological education and research.Founded in 1861 in...
.
Identifying when to buy and when to sell is the primary challenge for all swing trading as well as long-term trend following trading strategies. However, swing traders do not need perfect timing—to buy at the very bottom and sell at the very top of price oscillations—to make a profit. Small consistent earnings that involve strict money management
Money management
Money management is the process of managing money which includes investment, budgeting, banking and taxes. It is also called investment management....
rules can compound returns significantly. It is generally accepted and understood that all mathematical models or algorithms will not always work with every instrument or in every market situation.
Channels
Suppose a trader observes that a certain stock trades down to $20 (a "support" level), up to $30 (a "resistance" level), down to $20, up to $30, and so on. He may reason that this pattern will continue. Then the strategy is: buy when the stock is near $20; sell and short when the stock is near $30. Assuming that the pattern continues, he would continue to make a profit.If, however, the stock goes to significantly outside the range, it is said to "break out
Breakout (technical analysis)
A breakout is when prices pass through and stay through an area of support or resistance. On the technical analysis chart a break out occurs when price of a stock or commodity exits an area pattern....
."
Risks involved
Risks in swing trading are commensurate with market speculationSpeculation
In finance, speculation is a financial action that does not promise safety of the initial investment along with the return on the principal sum...
in general. Risk of loss in swing trading typically increases in a trading range, or sideways price movement, as compared to a bull market or bear market that is clearly moving in a specific direction.
See also
- Algorithmic tradingAlgorithmic tradingIn electronic financial markets, algorithmic trading or automated trading, also known as algo trading, black-box trading or robo trading, is the use of electronic platforms for entering trading orders with an algorithm deciding on aspects of the order such as the timing, price, or quantity of the...
- Day tradingDay tradingDay trading refers to the practice of buying and selling financial instruments within the same trading day such that all positions are usually closed before the market close for the trading day...
- Don't fight the tapeDon't fight the tapeDon't fight the tape is a term used in finance. It means do not bet or trade against the trend in the financial markets, e.g. if the broad market is moving up, do not bet on a downward move. The term tape here refers to the ticker tape used to transmit the price of stocks....
- Dow theoryDow TheoryThe Dow theory on stock price movement is a form of technical analysis that includes some aspects of sector rotation. The theory was derived from 255 Wall Street Journal editorials written by Charles H. Dow , journalist, founder and first editor of the Wall Street Journal and co-founder of Dow...