What is swing trading and how does it work?

Key takeaways:

1. Swing trading focuses on capturing portions of larger market moves by trading between major price highs ("swing highs") and lows ("swing lows"). Rather than trying to catch the exact tops and bottoms, traders aim to capture meaningful portions of these price swings.
2. The trading direction depends on the overall trend - in uptrends, traders look to "buy the dips" with long positions from lows to highs, while in downtrends, they aim to "sell the rallies" with short positions from highs to lows.
3. Stop losses are crucial for risk management: for long positions, stops are typically placed below swing lows (since breaking a swing low could signal a trend reversal), while for short positions, stops go above swing highs.
4. Technical indicators can be combined to identify trading opportunities - moving averages can help determine the overall trend, while momentum indicators like relative strength index (RSI) or stochastics can help time entry and exit points within that trend.
5. While swing trades are often described as lasting several days to weeks, the core principle of trading shorter-term moves within a longer-term trend can apply to various timeframes

Swing trading is a trading style which focuses itself on trying to capture a smaller portion of a larger move i.e. swings of the longer term trend.

The strategy is generally applied to markets with clear trends and sufficient volatility to generate meaningful price swings. Traders can apply this approach across various markets, from forex trading to shares.

The chart below shows a price chart in an uptrend, with the “Swing Highs” and “Swing Lows” highlighted.

The chart below shows a price chart in a downtrend, with the “Swing Highs” and “Swing Lows” highlighted.

A swing low is really just a term used to refer to a major price low, while a swing high is a term used to highlight a major price high.

In principle, a swing trader is concerned with trying to capture moves which are portioned between these major lows and highs.

In an uptrend a trader would be looking for “long” trades from these lows to high.

In a downtrend traders would be looking for “short” trades from these highs to lows.

It is really impossible to consistently pinpoint the exact high and low of every swing move, but the idea is to capture as good a portion of these moves as possible, which often means missing the exact highs and lows as we await confirmations that swings are underway.

Let us look at a swing trading example in an uptrend and a swing trading example in a downtrend.

In essence this type of trading concerns itself with identifying the trend: if its up we consider “buying the dips”, and if it’s down (the trend) we consider “selling the rallies”.

Trading signals can provide additional confirmation for entry and exit points. However, it's essential to develop your own analysis skills rather than relying solely on automated signals.

Stop loss and risk management

Those trading simple price swings still need to manage their risk in anyone trade.

For long positions traders might consider placing there stop loss or failure level in the event of a move below the swing low. A long position would consider an uptrend, a break of a swing low considers a lower low, a building block of a downtrend, hence a logical place to admit the failure of our uptrend assumption and trade.

For short positions traders might consider placing there stop loss or failure level in the event of a move above the swing high. A short position considers a downtrend, a break of a swing high considers a higher high, a building block of an uptrend, hence a logical place to admit the failure of our downtrend assumption and trade.

Using a demo account allows traders to practice their strategy without risking real money. This platform provides valuable experience in executing trades and managing positions under realistic market conditions.

Using indicators to build a swing trading strategy

Many traders will use technical indicators in conjunction with each other to try identify swing trade set ups in markets. This approach does however apply the same principles as discussed before i.e. identify the longer term trend and then look for signals to capture “swings” of this trend.

For example there are many indicators which are used to identify trend, one of the more popular ones is the moving average. In principle, when the price is trading firmly above the moving average the trend is considered up and when the price is trading below the moving average, that trend is considered down.

Once the trend is identified one could consider the use of a momentum indicator in an attempt to try capture swings of this trend. Popular momentum type indicators are often referred to as oscillators. The stochastic and RSI are the more popular of this category of indicator.

In an uptrend, a cross out of oversold territory (highlighted on chart) might be a signal to enter a trade (take a long position). While an overbought signal may be a signal to exit the trade (not trade against the trend).

In a downtrend, a cross out of overbought territory (highlighted on chart) might be a signal to enter a short trade, while an oversold signal may be a signal to exit the short trade (not trade against the trend).

Online trading platforms provide the necessary tools and features for effective swing trading. Choose a platform that offers reliable execution and comprehensive charting capabilities.

Further considerations

A number of definitions for swing trading will suggest that a swing trade is held overnight or for a couple of days to a couple of weeks. It is my view that a trend is relative to the time frame of the chart and that this is often not the case when looking at smaller time frames i.e. 30 minute charts or smaller. The core principle within swing trading remains looking to trade short term legs of the longer term trend.

In summary

Swing trading is a trading strategy that aims to profit from capturing portions of larger market movements by trading between major price highs ("swing highs") and lows ("swing lows"). Rather than attempting to catch the exact market tops and bottoms, swing traders focus on identifying and riding the trend's momentum.

The strategy revolves around two key principles:

• In uptrends: Traders look to "buy the dips," entering long positions at swing lows
• In downtrends: Traders aim to "sell the rallies," entering short positions at swing highs

Risk management is emphasised through strategic stop loss placement. For long positions, stops are placed below swing lows, while for short positions, stops go above swing highs. This approach helps protect against potential trend reversals.

Traders often use a combination of technical indicators to identify opportunities. Moving averages help determine the overall trend direction (up when price is above, down when price is below), while momentum indicators like RSI and stochastics help time entry and exit points. For example, in uptrends, traders might enter when the momentum indicator crosses out of oversold territory, and exit on overbought signals.

While swing trades are traditionally thought to last from several days to weeks, the text emphasises that these principles can be applied to various timeframes, including shorter intervals like 30-minute charts. The core concept remains consistent: trading shorter-term moves within the context of a longer-term trend.