Swing trading are short term strategies to take advantage of price swings, either reversing back to the median or fading a rally.
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Increased leverage and ease of getting money has resulted in traders moving away from higher risk trading style like trend-following trading or pattern based trading to swing trading. In India however, most traders, especially retail traders are still working on trend following techniques, candle sticks are conventional pattern based techniques. Swing trading are in fact best for retail traders as institution investors and professional big ticket traders do not generally follow these style on account of the short holding period and relatively small profits than what they are looking for.
Swing trading are short term strategies to take advantage of price swings, either reversing back to the median or fading a rally. Swing trades last anywhere from one day to a few weeks. A key characteristic of swing trades is that these are generally played in the most liquid stocks or indices.
A swing trader looks to trade in liquid stocks/indices which are trending. They generally avoid flat markets, which is why some people call swing trading as momentum trading. For a swing trader the basic premise for any trade is that trend is your friend. There are many methods adopted by traders to identify a trending stock, like using the ADX (average directional index), moving average convergence divergence (MACD) or fast moving averages.
Once a filter is run to sieve out trending stocks the next step is to look out for a correction against the trend. The general belief is that a strong trending stock will not move in a single line but will pause in between, known as corrections and then move in the direction of the trend. A swing trader intends to capitalize on the point from where the stock will again move in line with the trend. The advantage of this point is that it offers the best risk reward ratio as well as optimum use of capital.
There are various tools that one can use to identify the ‘pause’ point. Many traders use support and resistance levels of previous swing highs or lows. Swing highs are points from where the stock has corrected. In a strong uptrend a stock or index corrects from the recent high to the previous swing high point. In a downtrend the stock or index corrects from the recent swing low up to the previous swing low point. Some traders use a moving average as the reversal point from where they expect the stock or index to move back to the previous top of bottom. Others uses stochastics oversold and overbought points to make entries.
In any of the cases the point is to take an entry in line with the trend at a point of lowest risk. Swing traders normally trade with a 1:3 or above risk reward ratio. Exits are taken either in parts or at one go. Many traders exit part of their trade at the previous swing high in an uptrend or previous swing low in a downtrend and then ride the remaining position till they see the momentum stalling. Others use a percentage profit target of say 5 percent for part target and 10 per cent for the remaining.
Some others use a time period of say, 7-10 days. They have found out through their back testing that some stocks move in a direction for maximum 7 or 10 days, irrespective of the price.
While swing traders are known to trade in line with the trend there are some who like to take the opposite side that is they capitalize on a fading trend. Here the trader takes a short position at the swing high in an upward moving market or a long trade near a swing low in a downward moving market. The exits here are at the point where a normal swing trader would enter.
There are traders who take both the normal swing trade in the direction of the trend as well as the counter trade to take advantage of the correction.
Some swing trader also use a stock moving in a range to enter and exit using the support and resistance of the range as their entry points and the other extreme as their exits. Though these are not essentially swing traders in the correct sense of the word the risk reward their trades offer are similar to swing trader.
Swing trading is best for part time traders or traders who are beginning to learn to trade and want to take it as a serious profession. The risk reward offered in swing trading is one of the best as well the short term duration for each trade also helps a trader in optimally using his capital. Further the comparatively slow pace with regard to a day trader, allows a swing trader to adjust to the shifting market condition. This type of trading allows a trader to think while he is in a trade unlike a professional day traders for whom getting in and out of a trade is muscle memory.
Another aspect a trader learns while he develops as a trader is the money management aspect of trading. Frequent trades and the varying risk reward allow a trader to fine tune their money management skills to keep the risk reward ratio intact.
Swing trading is one of the most rewarding techniques, both - monetarily as well as in terms of developing skills for someone who is keen on making trading either as a full time professional or supplementing their income stream.
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First Published on Jan 3, 2017 01:04 pm