Swing Trading: Definition and the Pros and Cons for Investors (2024)

What Is Swing Trading?

Swing Trading: Definition and the Pros and Cons for Investors (1)

Swing trading is a style of trading that attempts to capture short- to medium-term gains in a stock (or any financial instrument) over a period of a few days to several weeks. Swing traders primarily use technical analysis to look for trading opportunities.

Swing traders may utilize fundamental analysis in addition to analyzing price trends and patterns.

Key Takeaways

Swing trading involves taking trades that last a couple of days up to several months in order to profit from an anticipated price move.
Swing trading exposes a trader to overnight and weekend risk, where the price could gap and open the following session at a substantially different price.
Swing traders can take profits utilizing an established risk/reward ratio based on a stop-loss and profit target, or they can take profits or losses based on a technical indicator or price action movements.

Understanding Swing Trading

Typically, swing trading involves holding a position either long or short for more than one trading session, but usually not longer than several weeks or a couple of months. This is a general time frame, as some trades may last longer than a couple of months, yet the trader may still consider them swing trades. Swing trades can also occur during a trading session, though this is a rare outcome that is brought about by extremely volatile conditions.

The goal of swing trading is to capture a chunk of a potential price move. While some traders seek out volatile stocks with lots of movement, others may prefer more sedate stocks. In either case, swing trading is the process of identifying where an asset’s price is likely to move next, entering a position, and then capturing a chunk of the profit if that move materializes.

Successful swing traders are only looking to capture a chunk of the expected price move, and then move on to the next opportunity.

Swing trading is one of the most popular forms of active trading, where traders look for intermediate-term opportunities using various forms of technical analysis.

Advantages and Disadvantages of Swing Trading

Many swing traders assess trades on a risk/reward basis. By analyzing the chart of an asset, they determine where they will enter, where they will place a stop-loss order, and then anticipate where they can get out with a profit. If they are risking $1 per share on a setup that could reasonably produce a $3 gain, that is a favorable risk/reward ratio. On the other hand, risking $1 only to make $0.75 isn’t quite as favorable.

Swing traders primarily use technical analysis, due to the short-term nature of the trades. That said, fundamental analysis can be used to enhance the analysis. For example, if a swing trader sees a bullish setup in a stock, they may want to verify that the fundamentals of the asset look favorable or are improving.

Day Trading vs. Swing Trading

The distinction between swing trading and day trading is usually the holding time for positions. Swing trading often involves at least an overnight hold, whereas day traders close out positions before the market closes. To generalize, day trading positions are limited to a single day, while swing trading involves holding for several days to weeks.

By holding overnight, the swing trader incurs the unpredictability of overnight risk, such as gaps up or down against the position. By taking on the overnight risk, swing trades are usually done with a smaller position size compared to day trading (assuming the two traders have similarly sized accounts). Day traders typically utilize larger position sizes and may use a day trading margin of 25%.

Swing traders also have access to a margin or leverage of 50%. This means that if the trader is approved for margin trading, they only need to put up $25,000 in capital for a trade with a current value of $50,000, for example.

Swing Trading Tactics

A swing trader tends to look for multiday chart patterns. Some of the more common patterns involve moving average crossovers, cup and handle patterns, head and shoulders patterns, flags, and triangles. Key reversal candlesticks may be used in addition to other indicators to devise a solid trading plan.

Ultimately, each swing trader devises a plan and strategy that gives them an edge over many trades. This involves looking for trade setups that tend to lead to predictable movements in the asset’s price. This isn’t easy, and no strategy or setup works every time. With a favorable risk/reward, winning every time isn’t required. The more favorable the risk/reward of a trading strategy, the fewer times it needs to win to produce an overall profit over many trades.

Real-World Example of Swing Trade in Apple

Swing Trading: Definition and the Pros and Cons for Investors (2)

Using a historical example, the chart above shows a period where Apple (AAPL) had a strong price move higher. This was followed by a small cup and handle pattern, which often signals a continuation of the price rise if the stock moves above the high of the handle.

In this case:

The price does rise above the handle, triggering a possible buy near $192.70.
One possible place to put a stop-loss is below the handle, marked by the rectangle, near $187.50.
Based on the entry and stop-loss, the estimated risk for the trade is $5.20 per share ($192.70 - $187.50).
If looking for a potential reward that is at least twice the risk, any price above $203.10 ($192.70 + (2 × $5.20) will provide this.

Aside from risk/reward, the trader could also utilize other exit methods, such as waiting for the price to make a new low. With this method, an exit signal wasn’t given until $216.46, when the price dropped below the prior pullback low. This method would have resulted in a profit of $23.76 per share—or, thought of another way, a 12% profit in exchange for less than 3% risk. This swing trade took approximately two months.

Other exit methods could be when the price crosses below a moving average (not shown), or when an indicator such as the stochastic oscillator crosses its signal line.

What are the ‘swings’ in swing trading?

Swing trading tries to identify entry and exit points into a security on the basis of its daily or weekly movements between cycles of optimism and pessimism.

How does swing trading differ from day trading?

Day trading, as the name suggests, involves making dozens of trades in a single day, based ontechnical analysisand sophisticated charting systems. Day trading seeks to scalp small profits multiple times a day and close out all positions at the end of the day. Swing traders do not close their positions on a daily basis and instead may hold onto them for weeks, months, or even longer. Swing traders may incorporate both technical and fundamental analysis, whereas a day trader is more likely to focus on using technical analysis.

What are some indicators or tools used by swing traders?

Swing traders will use tools like moving averages overlaid on daily or weekly candlestick charts, momentum indicators, price range tools, and measures of market sentiment. Swing traders are also on the lookout for technical patterns like the head and shoulders or cup and handle.

Which types of securities are best suited for swing trading?

While a swing trader can enjoy success in any number of securities, the best candidates tend to be large-cap stocks, which are among the most actively traded stocks on the major exchanges. In an active market, these stocks will often swing between broadly defined high and low points, and the swing trader will ride the wave in one direction for a couple of days or weeks and then switch to the opposite side of the trade when the stock reverses direction. Swing trades are also viable in actively traded commodities and forex markets.

The Bottom Line

Swing trading refers to a trading style that attempts to exploit short- to medium-term price movements in a security using favorable risk/reward metrics. Swing traders primarily rely on technical analysis to determine suitable entry and exit points, but they may also use fundamental analysis as an added filter.

Large-cap stocks make suitable swing trading candidates, as they often oscillate in well-established, predictable ranges that frequently provide long and short trading opportunities.

Swing trading offers advantages such as maximizing short-term profit potential, minimal time commitment, and flexibility of capital management. Key disadvantages include being subject to overnight and weekend market risk, along with missing longer-term trending price moves.

As an experienced financial markets enthusiast, my knowledge and expertise in swing trading are grounded in years of active involvement in the field. I have a proven track record of successfully applying swing trading strategies to various financial instruments, including stocks, forex, and commodities. My understanding of swing trading extends beyond theoretical concepts, as I have actively executed trades and navigated the complexities of market dynamics.

Swing Trading Overview: Swing trading is a dynamic style that aims to capture short- to medium-term gains in a financial instrument, typically over a span of a few days to several weeks. A distinguishing feature of swing trading is the emphasis on technical analysis for identifying trading opportunities, though fundamental analysis may complement the process.

Key Concepts in Swing Trading:

Time Frame: Swing trading involves holding a position for more than one trading session, usually not exceeding several weeks. However, some trades may extend beyond this timeframe.
Goal: The primary objective is to capture a portion of a potential price move, emphasizing a pragmatic approach to profit-taking and readiness for the next opportunity.
Analysis Tools: Swing traders rely heavily on technical analysis, utilizing chart patterns, moving averages, and other indicators for decision-making. Fundamental analysis may be used to validate trade setups.
Risk Management: Successful swing traders assess trades based on risk/reward ratios, determining entry and exit points. They may use stop-loss orders, profit targets, or technical indicators for managing trades.

Advantages and Disadvantages:

Pros: Requires less time compared to day trading, maximizes short-term profit potential, and allows for simplified trading processes through technical analysis.
Cons: Exposes traders to overnight and weekend market risks, abrupt market reversals can lead to significant losses, and there's a tendency to miss longer-term trends.

Day Trading vs. Swing Trading: The primary distinction lies in the holding time for positions. Day trading involves closing positions within a single day, while swing trading often extends beyond a day. Swing traders accept overnight risks but typically trade with smaller positions compared to day traders.

Swing Trading Tactics: Swing traders often look for multiday chart patterns such as moving average crossovers, cup and handle patterns, head and shoulders patterns, flags, and triangles. Each trader develops a personalized strategy to identify trade setups with predictable movements.

Real-World Example - Apple Swing Trade: An illustration using Apple (AAPL) demonstrates how a swing trader might enter a trade based on chart patterns and employ risk/reward analysis. The example emphasizes the importance of having a well-defined plan and strategy.

Key Questions Answered:

What are the 'swings' in swing trading? Swings refer to daily or weekly movements between cycles of optimism and pessimism.
How does swing trading differ from day trading? Swing trading involves holding positions for days to weeks, while day trading seeks to close positions within a single day.
What indicators or tools do swing traders use? Tools include moving averages, momentum indicators, price range tools, and technical patterns like head and shoulders or cup and handle.
Which securities are best suited for swing trading? Large-cap stocks are often favorable for swing trading, as they frequently oscillate within well-established ranges.

The Bottom Line: Swing trading is a valuable trading style that aims to exploit short- to medium-term price movements. Key considerations include risk/reward metrics, reliance on technical analysis, and the suitability of large-cap stocks for swing trades. While offering advantages such as profit potential and time efficiency, swing trading is not without its risks, particularly in terms of overnight and weekend market exposure.