Swing trading is a popular approach used by many traders in the stock market, futures markets and currency trading. The advantage of this approach is you can make money both in a bull or bearish market, and in markets that are trading within a range, rather than trending strongly. Read more to learn about swing trading.

What is Swing Trading

The term ‘Swing Trading’ is pretty much self explanatory. It refers to a trading technique where you identify the “swings” or ups and downs of a particular stock’s value and buy and sell the upswings and downswings to make a profit. Swing trading basically depends on the medium term price movements where the price of a stock or other financial market fluctuates within a limited range – it allows traders to profit from securities that are range bound rather than showing long term trends.

Although swing trading is all about taking advantage of the price fluctuations of a security, swing trading is not recommended for the market where there are very rapid short term ups and downs.  It is more suited where the price tends to move in the same direction for some time and then reverse.

Developing a trading plan

As it was mentioned earlier, if you want to get the best out of stock market having a master trading plan is vital. Now what is a trading plan? It is a set of trading rules that are developed based on market analysis to determine when to enter or exit a market.  It is very important to follow a specific trading approach backed by a well organized plan if you want to make money from trading. Entering the market without a proper approach is like sailing your ship in the sea without a map of how to reach the destination.

A trading plan tells you how much of your capital you will risk on each trade, how you will determine when to enter a trade, how you will exit at a profit, and where you should stop out your trade at a loss.  You need to determine this prior to entering a trade, not afterwards.

When you have a trading plan, you don’t have to rely on your judgment as the plan will provide you the signals to make the move. By using the trading plan you are overcoming the emotional barriers like greed and fear. All you need to do is being patient and disciplined enough to make your moves strictly based on the trading plan.

For example, if a stock fluctuates between $4.70 and $9.70, you set an entry point of $5.00 (using a limit order), you could place a stop loss at $4.50 (which is a 10% risk on that trade), allocate 10% of your capital to that trade (which places 1% of your capital at risk), have a profit target of $9.50, and close the trade (no matter what the price) within 2 weeks.  This quantifies your maximum risk, your potential profit, your potential loss, and time boxes the trade (so if the price just goes to $5.50 and stays there, you close out the trade).  You would select the stock after checking that it doesn’t have any serious adverse news that may weigh it down, and ensuring that there is enough liquidity to close out your trade.

The steps in swing trading

• Identify the right stock or security to trade. Financial securities that have price fluctuation in the long run (say on a weekly or monthly basis) are ideal subjects to apply this method. Never try to apply this on an extremely volatile security that shows frequent very short term movements.
• If you are trading stocks, make sure that the stocks you choose have sufficient liquidity to support trading.  This can be determined by finding what the bid-offer spread is, and determining the daily turnover.  You need a stock with substantial daily turnover, and a tight bid-offer spread. 
• Identify the type of trend the security is currently experiencing (upward or downward), and identify turning points.
• In case of up trending securities, find out the ones that are showing the price movement by pulling back and then moving up again in regular intervals and for downtrending securities find the ones that are demonstrating temporary pull ups in price movement while sliding down.
• After the right securities are identified, put a limit order for buying the securities (for uptrend) or selling short (for down trend). This should be done according to your trading plan.
• After the stock is traded, you need to minimize the down side risk of your positions by placing stop loss order and place a limit order to fix the point where you want to take your profit. You need to readjust your stop loss point regularly according to the master plan.

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Tags: Master Plan, price movements, stocks, Swing trading, Trends

This entry was posted on Sunday, January 25th, 2009 at 3:07 am and is filed under Trading Basics, Trading Rules. You can follow any responses to this entry through the RSS 2.0 feed. Both comments and pings are currently closed.