What is Swing Trading?
Swing Trading is a mid term trading strategy often utilised by FX and CFD traders.
Swing Trading positions may be kept open for just a few hours, but Swing Traders can also choose to keep a trade open for much longer, under the right market conditions.
Swing Trading aims to recognise and substantiate the existence of a trend in a particular instrument or market. Then to open a trade with the intention of capturing as much of that trend (or price change) as possible. This is achieved by running the trade until the trend comes to a natural conclusion or the end of the business day. That is if the Swing Trader does not wish to have overnight exposure.
How does Swing Trading work?
As we have already noted Swing Traders attempt to identify and confirm the existence of trends within the price action of the instruments they trade. These trends will fall into one of two broad categories – the Uptrend and the Downtrend. Those trends can be defined as follows:
An uptrend is a series of higher highs and higher lows which reflect a rising underlying price in a given instrument. While a downtrend is defined as a series of lower lows and lower highs, it reflects a downward move in the price of the underlying instrument.
The chart below shows a clear uptrend in the EURUSD pair that ran between the 13th of July to the 2nd of August 2017.
Whilst our second chart (see below) contains a clear example of a downtrend in the GBPUSD pair, or Cable as it’s otherwise known, that ran from late morning to mid afternoon on the 8th of August. In both cases, the trends are annotated by a yellow arrow.
Charts such as these provide the trader with clear visual signals. It’s for that reason that Swing Traders tend to use Technical Analysis as part of their strategy in order to identify trends, to confirm their validity and to highlight the potential entry and exit points for both stop loss and take profit levels in a given trade.
Swing Traders will often want to see price action break moving averages, period highs or lows, or support and resistance levels (or indeed a combination of the above) before they action a trade. Swing Traders will also often employ indicators to alert them to any change in the "health" of a trend during its lifetime. Any deterioration in which may be a signal, that it is time to consider an exit, or least prepare for one.
Swing Trading is a trend following discipline. Such that If the price of a financial instrument is in an upward or rising trend, then the Swing Trading Strategy employed would be to open long trades or place buy orders in that instrument. In the expectation that this uptrend (or move higher) will continue and the underlying asset price will rise above the trade entry price, allowing the Swing Trader to make a profit at the point that they close the trade.
If however, the prevailing trend in that instrument is to the downside i.e. the price of the instrument is falling, Swing Traders, in the expectation that the price of this asset will continue to fall, are most likely to open short trades or sell orders as their trading strategy. They will aim to repurchase the asset at a lower price than their trade entry level and in doing so, close their short position at a profit.
Swing Trading strategies can also involve trading the ranges within the price of an FX pair, index CFD or commodity contract. Ranges appear in a chart when price action lacks a clear directional impetus and instead trades between support and resistance levels while waiting for either supply or demand to get the upper hand. We show a simplistic example of just such a range below.
Whilst trading such a range can be a fruitful exercise, it’s the point at which the price breaks out from that range which really interests the Swing Trader. Simply because this kind of break out can signal the start of a new trend.
The skill in successful Swing Trading is by identifying and confirming the start of a new trend or the continuation of an existing one. This is achieved through the scrutiny of price action and by only trading when there is a very high probability that a genuine trend is in place.
Swing Trading activity tends to take place over longer time frames than those associated with scalping. Though Swing Trades are typically shorter in duration than those taken by positional traders, the duration of a Swing Trade is determined by the longevity of the trend it’s following. Of course in a 24 hour 5 day a week market such as Forex, there is nothing to stop a trader raising a stop beyond their trade entry price in a successful trade. With a view to locking in a profit and letting that trade run. Be it that for several hours or even over a number of days.
Of course, overnight exposure comes with its own challenges in terms swap charges and monitoring positions and price changes. For these reasons, Swing Traders may choose to close out or scale back on positions at the end of the day. Or during periods when they are not able to pay close attention to the market.
Part and parcel of Swing Trading are so called false breakouts where moves in the price of an instrument "flatter to deceive". In the 15-minute plot of AUDUSD below, we have highlighted two examples of false signals with a yellow ellipse.
In each case the price tests to and through an area of horizontal resistance. But very quickly the price reflects the move higher and retraces below the resistance. In the example, on the right of the chart, we can see this happens three times in quick succession. Each time it does this, AUDUSD posts a so called high wave candle.
Of course, you will have noticed that right in middle of these two "false breakouts" there is a more concerted move higher. Though once again, this is a relatively short lived affair and it ends with rejection at another area of horizontal resistance. In fact, on reflection, it’s clear that all three are false signals on the upside. Yet, at the same time, they are clearly suggestive of a move lower or retracement. The adept Swing Trader may have looked to open a short position or to "square and reverse" any long exposure on this kind of rejection signal.
How can I apply swing trading strategies?
The prices of financial instruments rarely, if ever, move in straight lines. Instead, they fluctuate, reflecting changes in supply and demand and investor sentiment as they do so. These variations in price combine to form the characteristic chart patterns which are the lifeblood of technical analysis. Technical analysis can be a complex subject.
However, we can use a simple ready reckoner in order to determine if the price of an instrument is trending and to identify what this trend is.
An uptrend can be defined as a series of consecutive higher highs and higher lows. In other words, it can be clearly seen on a chart that the price of the security is moving higher during the observation period, be that over a 5 minute,15 minute, hourly or even daily time frame.
Conversely, a downtrend can be considered to be a series or procession of lower lows and lower highs. In this instance, the price of the security is moving to the downside over our observation period or time frame, whatever that may be.
Charting software packages such as those in our MT4 and cTrader platforms continuously record information about a security’s price action over a given period. Tracking and recording the Opening price, the High and Low prices printed during the time frame, as well as the Closing price at the end of the period. This data can then be represented in that securities chart.
This is most commonly displayed in either a bar or candlestick chart format. These type of charts provide a Swing Trader with both a visual and a data driven view of a security or instruments price performance during the selected time frames.
The chart below shows an hourly plot of Bitcoin with the MT4 data window open adjacent to the chart. We can see the HLOC (High Low Open Close) and in this case, the volume data for an individual candle or period of time.
Confirming a Trend
Swing Traders who are looking for an upside or bullish breakout will need to see upside momentum. This may come in the form of an initial move higher in the price of an instrument that is then followed by a pullback or counter trending price action. Which is itself, superseded by a subsequent move higher in the price once more.
That subsequent move will be of particular interest if the price posts a new higher high, or indeed highs within this third leg.
This type of move may often provide confirmation of the trend as far as the bullish Swing Trader is concerned. If that’s the case, they will open a long position or buy, accordingly.
The diagram below shows an example of this type of upward momentum and trend confirmation.
Swing Traders will not wish to participate in a false breakout. But they will be alert to the possibility and will usually use a stop loss order as part of their Swing Trading Strategy to protect themselves, against such an eventuality. Having entered a trade on the long side after the type of confirmation noted above. The Swing Trader may well have placed a stop loss just below the counter trend low, as a pull back or correction to such a level (a lower low) would infer that this was indeed a false breakout.
However, as we have already noted, a series of lower lows and lower highs also constitutes a downtrend. So while the Swing Trader may have seen a false breakout on the upside, the new lower low could identify the start of a new downside trend. Confirmation of this trend could come in the form of the price actions failure to trade above the new lower high, that was associated with the counter trend low. Followed by the print of a subsequent and new, lower low.
This type of situation can be seen in the diagram below.
It should clear by now that Swing Trading, in essence, is all about identifying and capturing momentum trends which is mostly achieved through the study of time series data as displayed on price charts. But as was mentioned earlier we can also adopt a data driven approach to monitor and identify emerging trends and momentum. One way to do this is to monitor price performance versus key price points such as period highs and lows or moving averages.
Swing Traders will look for price cascades which can be thought of as a series of sequential price changes or prints. Each of which creates a new high or low for a particular period. For example 5 consecutive new 5 minute highs or lows.
The periodicity of (or how quickly) price cascades occur can also inform the trader about the acceleration of the momentum/trend. Price cascades can often lead to what is known as price progressions. A price progression would be characterised a series of trades or prints which climb up or down a "price ladder". Printing, for example, consecutive new 1,5. 10,15 and 30-minute highs or lows.
Swing Trading Strategy Recap
Patience is a virtue remember you are looking to capture the majority of a move, not just a few pips.
Always look for confirmation before jumping into a trade. Let the price action tell you that it’s changing direction or breaking a key level such as long term support or resistance.
Carefully consider the placement of your stop losses relative to recent price action. After all, you won’t want to be prematurely stopped out. But neither do you want to expose yourself and your capital to undue risk.
Remember you can raise or lower your stop loss behind a trade, as it moves in your favour if you can move stop ahead of entry point you are potentially locking in profits.
Always keep a record of the reasons why you entered a trade. What your confirmation signal was, The points at which you placed any stop loss and or take profit orders etc. You can look back on this record and review what went right or perhaps wrong.
Try to trade only when you believe the odds of success are very much in your favour.
If not doing so already consider adding indicators such as Relative Strength (RSI) and or Bollinger Bands to your charts. Both of which can shed light on trend strength and likely longevity as well possible failure or breakout points.
Alternatively, the more sophisticated Stochastic Oscillators can be used to track market momentum independently of price or volume. These indicators can be customised by users to suit their own strategy or style.
Most important of all if you are new to Swing Trading then practise as much as you can and formulate your strategy before committing to real trading.