An Overview of Swing Trading Strategies
Professional traders usually recommend using a simple swing trading strategy. This is sound advice. A simple set of instructions is, after all, easier to follow than a complicated set. This becomes especially important when you find yourself needing to make split-second decisions. In the chaotic world that is the financial markets, you tend to cling fast to anything that provides a clear course of action.
The simplest swing strategies, however, are often the most ambiguous. Consider the following directive:
'Go long at the first swing-point low after a prolonged downtrend.'
How exactly would you go about implementing this strategy? If you are entirely new to trading, you might initially be hung up on what 'going long' means, or what swing-point lows and downtrends are. No problem. These are easily cleared up by studying trader terminology.
Or are they? Do some research and you will discover how there is no consensus over the definition of a downtrend, let alone what constitutes a prolonged one. Would that be measured in days, weeks or months? There is also disagreement over swing-points. Some traders say four candlesticks are needed to form one. Many insist on five. Others get by with only three. So if we are told to buy once a swing-point low appears post-downtrend, the question of exactly when remains vague at best. In trading, such uncertainty cannot be tolerated.
Presumably the author of this strategy knows these details but has left them unsaid. Perhaps he did so for the sake of brevity. Or maybe he thought, "Aw, that's so simple I needn't write it down. Everybody knows that!" Well, not everyone does. In a way, though, it matters little. It works for him and that is enough.
This is where you want to be as a swing trader. Since your own money is at stake, you should author your strategy in a way that works for you, not others. There is no need to use fancy trading terms. You may later wish to share it with the world and pretty it up. But, at least initially, you should try to address all questions that are liable to arise using your own words. Give yourself detailed instructions to deal with every possible contingency. As you later mature as a trader, you may look back and be embarrassed at how elementary your understanding once was. You might then opt to condense your strategy into fewer words. You might even manage to distill it down to just a dozen or so. And that would be a great place to be.
Think Like a Computer
Most people know that casinos do not make money year after year because they are perpetually lucky. It is because they have stacked the odds in their favor. If you bet a dollar on red at the roulette table, you may win (or lose) a dollar. But while the payout is even-money, the odds of doing so are not. They are slightly less than 50-50 against you. It is because of this house edge that casinos are consistently profitable. It makes it a statistical certainty they win in the long run.
To succeed as a swing trader, you must become the house. Your goal is to develop a trading strategy that puts the odds of making winning trades in your favor. This is how the professionals do it. And you can do this entirely yourself. Get your hands on historical market data and begin looking for patterns that seem to anticipate which direction prices will head in the future. It need not be anywhere near a perfect forecast. It just needs to be better than 50-50.
Ideally, you will want something much better than 50-50. This, of course, is easier said than done. You can spend a lifetime looking for the (non-existent) holy grail of trading. And many traders set out to do just that. But if you are just starting out, the best advice is to not try reinventing the wheel. Look to see what others before you have discovered. Read and study books written by past master-traders. Scour the web for reputable sites. Then take the best elements you find and begin piecing together your own swing strategy. One that not only works, but one that is meaningful to you. This point is crucial. You must believe in it.
Because putting the odds in your favor is only the first step to developing a winning swing trading strategy. The equally important second step is to craft it in such a way that you can faithfully execute it without forethought. You must take the guess work out of trading as much as you can. For that is where emotions (the two big ones: fear and greed) creep in and threaten all your hard work. Emotionless trading is your ideal. Think Data from Star Trek: TNG. Write up your trading strategy so it proceeds in a logical, step-like fashion. Almost as if you were encoding it for a computer.
Almost. Unless you wish to turn your trading over completely to an automated trading system, you will want to retain some discretionary decision-making power. But there is no need to intentionally program obscurities into your trading strategy. Discretion is present in the best laid plans since no human system can anticipate every contingency 100% of the time. Perhaps the better model here is Spock from the original series. He was a flawed half-human being after all.
Elements of a Swing Trading Strategy
Although you will continually update and refine your swing trading strategy as you gain real-world trading experience, it is critical for this document to be as complete as possible before you actually begin trading. For it tells you exactly what to trade, when to trade, and how to trade. Pulling up your broker's order window when you have not yet worked out answers to these questions is simply a fool's errand.
Like a trading plan, the structure of your trading strategy document is entirely up to you. It just needs to address the what, the when and the how of trading. Here is one way to organize the content:
- General Considerations – you might begin with stating under what general market conditions your strategy will optimally perform. If your strategy calls for shorting stocks, for instance, you probably want to be in an overall bear market to increase the likelihood that your trades will profit. Or if you wish to repeatedly trade a select handful of stocks, you probably care less for what the overall market is doing and more for stocks that are non-trending in order to take advantage of their periodic swings from highs to lows and back again.
- Entry Conditions – here is where you define your set-ups, the circumstances under which you enter trades. What behavior must a stock exhibit to be considered tradable? Must its price be, for instance, climbing for five consecutive days while its key moving averages are still sloping downward? Or will you wait until those moving averages also turn up before you buy that stock? You can state your criteria quantitatively using hard numbers, or qualitatively by giving visual descriptions of stock charts, or anything in between. As long as you state explicitly what needs to happen before you trade, anything goes. What is most important is that it makes sense to you so you will not hesitate in executing it.
- Position Maintenance – does your strategy call for actively monitoring open positions? Doing so has benefits. You are likely to conquer the steep learning curve of trading that much quicker if you can study the intra-day movements of your positions in real-time. But this may not be possible if you have a full-time job. If so, you will need to figure out what instructions to give your broker so your positions are attended to in your absence.
- Exit Conditions – this element of a trading strategy is often neglected by new traders. Even experienced swing traders tend to focus their research on entries rather than exits. This is unfortunate because deciding when to exit a trade is arguably more important. For exits are where profits are ultimately realized, whether that comes indirectly through cutting loses short or by directly locking in gains. Since stock prices fluctuate throughout the day even when they are generally on the rise, it is critical to get your exits just right. Or else you will miss out on profits – the very reason you enter trades in the first place. You can decide where to make your exits in any number of ways. Many consult charts for price support and resistance levels. Others rely on indicators to tell them its time to get out. But one thing is clear. Once you optimize your exit criteria through testing and make it an integral part of your trading strategy, you must consistently apply it to all your trades. Otherwise subjective elements will rule your trading. And in the financial markets, that is tantamount to rolling the dice.