Swing Trading Strategy: Seeking Short-Term Opportunities

Markets rise and fall. Sometimes prices move a lot in a short period; sometimes they stay within a tight range over a long time. But markets are always fluctuating to some degree.

If you’re a long-term investor, your focus may be the bigger picture—the larger market trends and cycles—bull and bear markets. But within the larger currents exist a multitude of minor price fluctuations: “swings” in the form of smaller rallies and declines. Simply put, several trends may exist within a general trend.

Some traders attempt to capture returns on these short-term price swings. The term “swing trading” denotes this particular style of market speculation. Perhaps you’ve been tempted to venture into this style yourself. If you’re not familiar with it, read on for a brief intro.

As a form of market speculation, swing trading strategies involve opportunity, but also risks.

What is swing trading?

Swing trading seeks to capture short-term gains over a period of days or weeks, according to Ben Watson, an education coach at TD Ameritrade. Swing traders may go long or short the market to capture price swings toward either the upside or downside, or between technical levels of support and resistance.

Although swing traders may use fundamental analysis to provide strategic perspective for a given trade opportunity, Watson said, most will use technical analysis tactically. He pointed to four critical components of a trade setup:

• Which direction to trade—long or short
• At which price to enter 
• At what price to take profits
• At what price to cut losses

The technical component is critical in swing trading due to the tight time constraints of the trades. Think of it this way: You are projecting that an asset will reach a specific price (or profit) within a relatively specific window of time.

So, when entering a swing trade, you often have to determine why you are buying or selling at a specific price, why a certain level of loss might signal an invalid trade, why price might reach a specific target, and why you think price might reach your target within a specific period of time.

“Fundamental analysis, with its focus on economic cycles, company and sector earnings, and other longer-term trends, isn’t typically suited for specific entry and exit points,” Watson said. “However, it may inform the decision to trade a particular asset.”

He pointed to technical analysis and chart patterns, which can focus on narrower time and price context, to help traders visually identify specific entry points, exit points, profit targets, and stop order target levels.

At this point, you might be asking:

• If swing trading is about seeking short-term profits, then isn’t it similar to so-called “day trading”?
• If a swing trader can hold a market position for several weeks, isn’t that like long-term position trading, almost like “investing”?

The answers to both questions are yes and no. Swing trading sits somewhere between the two. Let’s explore the differences.

Swing trading vs. day trading

Although both swing trading and day trading aim to achieve short-term profits, they can differ significantly when it comes to trading duration, trading frequency, size of returns per profit target, and even the style of market analysis.

Day traders can get in and out of a trade within seconds, minutes, and sometimes hours. This means they can place multiple trades within a single day. Because of the ultra-narrow time frame, day traders often aim to capture smaller gains more frequently—unless they’re trading a major news event or economic release, which can cause an asset to skyrocket or nosedive.

The effects of market fundamentals can be slow to emerge. Fundamentals tend not to shift within a single day. Much of the seemingly “random walk” of prices from minute to minute throughout the day may appear as noise. Yet, some day traders might consider these smaller fluctuations to be “tradable.” And because fundamentals may not necessarily influence every single change in price, day traders often rely on technical analysis to gauge these micro-movements of supply and demand.

In contrast, swing traders attempt to trade larger market swings within a more extended time frame and price range. Larger price action within a span of days or weeks can often be sensitive to investor response toward fundamental developments. Hence, swing traders can rely on technical setups to execute a more fundamental-driven outlook. If you’re new to technical analysis, you might want to review the basics. A few of the common patterns can be found in figure 1.

Swing trading vs. long-term position trading

Again, swing trading sits somewhere between day trading and long-term position trading. Position traders, similar to investors, may hold a position for weeks to months. But this may also change the nature of how market analysis is conducted.

Because position traders look at the long-term trajectory of the market, they may base their trading decisions on a more expansive view of the fundamental environment, aiming to see the big picture and seeking to capture the returns that may result from correctly forecasting the large-scale context.

The longer the time horizon, the more prices swing within the trajectory. A position trader might hold through many smaller swings. A swing trader would likely trade them.

Reasons to swing trade

Swing trading can be a means to supplement or enhance a longer-term investment strategy. Swing trading is one of the few ways to capture frequent short-term price movements in a market landscape that tends to evolve at a much slower pace.

With that said, if you decide to implement a swing trading approach, you might want to consider being conservative with the capital you allocate to this trading style because it has specific risks.

The risks of swing trading

Trading frequency and risk: Short-term trading opportunities can sometimes occur more frequently than their longer-term counterpart. Bear in mind that the more frequent trading brings more frequent risk exposure. Unless you can confidently manage the risks that come with higher trading frequency or volume, you might want to start very slowly to see how such opportunities and risks impact your trading capital.

And remember, the shorter your time horizon and the more trades you make, the more you’ll rack up in transaction costs. This can water down your overall return, even if your swing trading strategy is otherwise profitable.

Trading complexity and risk: Because every trading opportunity can present a unique market scenario, your approach can vary considerably, which introduces complexity. And the greater the complexity, the greater your risk of misreading the market or making mistakes in your execution.

Swing trading strategy: Adopt or avoid?

Swing trading is a specialized skill. It isn’t for every investor, and not every investor can succeed at it. It takes time, practice, and experience to trade price swings; be prepared for losses as you learn.

Or, as Watson put it, “It’s one thing to know what a chart is. It’s another to actually know how to read a chart.”

If you have a low risk tolerance, or if you don’t have sufficient risk capital, then you might want to avoid it altogether. But if you have the tolerance, risk capital, and willingness to learn to swing trade, you might find it a valuable skill and supplement to your longer-term investments.

As Watson and his education coach colleagues like to say, “Keep things simple. The right combination is different for every trader, so it’s important to start with the basics and work your way into using the indicators and patterns that make the most sense to you.”