What is Swing Trading? - Swing Trading Labs (2024)

And why it can be the most profitable form of stock trading!

What is Swing Trading? - Swing Trading Labs (1)

What swing trading is

Simply put,swing tradingrefers to short-term stock trading where an asset is bought on one day and sold on a different day. It can be generalized, of course, but we only consider stock trading for our purposes. The important point is that the round-trip transaction doesn’t happen on the same day.

When you compress this buy and sell cycle into a single day, you getday trading, a different beast.

Swing trading can last anywhere between two days to several days. Sometimes even as much as two or three weeks. Not much longer.

What it is not

While the difference between day trading and swing trading is simple and crystal clear, the exact transition point between swing trading and the next form of trading is a little murky.

Let’s list the main styles of securities transactions based on their trade cycle durations:

  • Same Day:Day Trading
  • Two days to a few weeks:Swing Trading
  • A few weeks to many months:Position Trading
  • Several months to many years:Investing

As a rough approximation, we can say that swing trading doesn’t extend beyond two or three weeks for the most part. Of course, there are always isolated exceptions. How long a swing trade is held depends on the specific trading strategy and the actual market action experienced.

When the holding period is longer than a few weeks, you are generally looking atposition trading. That can stretch into several months. Position trading is outside the scope of our discussion here.

Even beyond position trading is what qualifies asinvesting.

While position trading is loose about the time frame but still operates with an exit criterion, investing would involve purchasing assets like stocks without a specific exit time horizon. In the extreme, you have the Warren Buffett-style buy-and-hold investment where you don’t plan to sell your shares of stock at all.

Another way to look at it is to think of all types of trading as targetting short-term gains (which act like current income for tax purposes) while investing targets long-term capital gains. In any stock transaction, however, market conditions or personal situations may force a sale prematurely. For example, a swing trade may end up closing the position the same day, making it a day trade. Likewise, an investment may need to be dissolved and end up triggering a short-term gain or loss.

Have you noticed how investing is in a class of its own whereas trading is divided into three separate types? Let’s see why that is.

Day Trading vs. Swing Trading

We already saw that the distinction between day trading and swing trading is clear-cut: single-day vs. multi-day trades. Let’s take a look at why this distinction is significant.

  • FINRA(Financial Industry Regulatory Authority, a powerful body of regulators that influences the way you engage in securities transactions) regulations require your stock broker to affix a label on you as apattern day traderif you practice frequent day trading. This will impose restrictions on whether or not you can do continued day trading transactions, based on the equity you maintain in your account. Day traders are under this scrutiny; swing traders are not.
  • Day trading is a full-time job. You need to monitor the market constantly during the trading day. Swing trading is a lot more relaxed. You can hold a day job while practicing swing trading on the side.
  • There is no time to do any fundamental analysis in day trading; it’s all technical trading–dealing with charts and patterns of price and volume. Swing trading is also mostly technical, but there is time available to infuse fundamentals to guide the trade selections.

Most day traders have a losing record. Swing traders have their losses too, but reasonable swing trading strategies have a good chance of being profitable overall. While this is an observation rather than a criterion that separates the two, it is important to keep in mind when you choose your style of trading.

Position Trading vs. Swing Trading

Differences between these two are not as well defined. The distinction comes more out of the approach to capital growth. These two trading styles have an interesting analogy in baseball terms.

In baseball, whether you go for base hits or home runs affects how you swing your bat. Home runs are harder than base hits but have higher payoffs. You choose what you are going for and bat accordingly.

The parallel between trading styles and batting styles is not exact, but surprisingly good:

  • Both batting styles want the same thing–hit the ball safely. Both the trading styles want gains.
  • Both batting styles sustain the reality of getting out on several at-bats. Both trading styles weather trading losses.
  • The batting styles choose the swings based on the desired result. The trading styles choose their strategies based on the desired result.

The last point is important.

It refers to the mindset being the driving force. The difference in mindsets between these two trading styles is what separates them: Position trading tries to maximize the returns on each trade regardless of how long it takes. Swing trading tries to maximize the returns within a short time, so as to have other opportunities to compound the growth of the portfolio. In other words, annualized rates of return, not just the returns are the important criteria.

We will have a more detailed discussion on the power of compounding and how it affects our swing trading decisions in future posts. Let me just say here that it is this focus on the annualized rate of return that generally means that swing trading strategies favor trading cycles of at most a few weeks.

Thus, swing trading is firmly in the trading space with the goal of generating short-term gains and is not day trading or position trading.

What to swing trade

What is Swing Trading? - Swing Trading Labs (2)

Swing trading as a methodology can be applied to anything that can be bought and sold.

Currently, there is a lot of excitement in trading cryptocurrencies like Bitcoin. Equally popular is FOREX trading, or trading of foreign exchange contracts, although they are more likely to be associated with day trading. Other items often traded are commodities like sugar, coffee, pork bellies, wheat, and others.

In short, where there are price changes, there is scope for trading.

My focus is on exchange-traded stocks in the U.S., suitable for individual traders.

Why? There are several reasons:

  • There are plenty of choices, with thousands of stocks to choose from. Most of these have enough price movement to make swing trading possible.
  • There are enough stocks with good liquidity to make this feasible. When you depend on trade execution, you will have enough traders to get that fill.
  • Plenty of stocks with a large enough daily volume are available. As individuals, we are looking for choices where our trades themselves do not affect the price.
  • The stock market is only active for a limited time during the day, giving us a lot of time to analyze patterns after trading closes.
  • In many instances, simple stock purchases and sales are offered without a commission by many brokers.
  • Historic quotes are readily available for free, making experimentation and backtesting easy and free.
  • By limiting the pool of stocks considered for swing trading to those that are in a broad market index like the S&P 500, we have a ready-made yardstick against which to measure our performance.

So, our initial experimentation will be on theS&P 500 stocks!

Why bother with it?

The short answer is that swing trading is an excellent way to stack smaller and quicker gains into outsized gains in the longer term, through the power of compounding (The trick is to arrange for these smaller profits on a regular, and frequent, basis).

In a future post, we will see that if you can earn a 1.4% gain in your portfolio every week, you can double your investment over the year! This is easier said than done, but the market regularly provides opportunities that enable this.

Swing trading is in the sweet spot of generating actionable trades in a short enough time to make compounding do its magic. Often, this enables us to post higher annual returns than position trading or investing.

Why not Day Trading, then?

You may feel that day trading is even better suited for this amplification of profits through even quicker gains. After all, you can squeeze many more trades through the year with day trading.

This is where trader psychology comes into play.

The trouble with day trading

When you day trade, you must react to fast-changing markets in real-time; worse, in order to be on top of these price changes, you must be monitoring the stocks constantly during the trading day.

This has two undesirable effects:

  1. You can’t hold any other day job, trading must be your full-time job
  2. Due to rapid-fire decision-making at small intervals, you will make bad trading decisions.

You may question the second point, but history has proven it. Many traders have depleted their trading capital by day trading. The danger is real. The psychological pull of fear and greed is amplified due to the speed of the trading conditions; the level of discipline needed to maintain a cool head is too much for most people.

Swing trading is a huge relief

By requiring a forced overnight cooling off between the buy and the sell, swing trading slows down the whole process and helps you think more rationally. This is not to say you are immune from the forces of fear and greed. Just that the parameters are different and are more conducive to rational decisions.

Day trading has another barrier

Regulation and oversight. With regular day trading, you cannot avoid being termed apattern day trader. Earning that designation means that you must have a higher amount of trading capital in play than otherwise. If you fall below that amount due to some trading losses, you suddenly find yourself unable to day trade until you add more capital. Or, you change your trading style to…wait for it…swing tradinguntil you make enough profits to get back in the day trading game.

Needless to say,swing trading avoids this issue altogether. If you strictly follow the swing trading paradigm, you will never run afoul of the pattern-day-trader trigger, and your trading style will continue undisturbed.

You may feel that slowing down the trading speed in this manner makes swing trading not as productive as day trading in terms of profit potential. Quite the contrary. There are plenty of opportunities to make serious money with swing trading. There are plenty of opportunities for serious losses too!

That’s why it is important to have proper methodology and strategy for swing trading.

How to do swing trading?

Ah, that is THE question, but it’s really outside the scope of this post. Fear not, we’ll be spending ample time on it in future posts.

We saw that one of the differentiators between day trading and swing trading is that day trading forces you to make it your day job and swing trading seems to be more accommodative. You may wonder whether it is realistic to make swing trading work strictly as an after-work endeavor for you. It is. That will be the angle I will be pursuing as I explore swing trading.

For now, buckle your belts and join me in this exploration!

Caution:Stock trading, including swing trading, presents inherent risks and you must understand them before entering into any transaction. Profits are not guaranteed and losses are known to occur even to experienced traders. The contents of this article represent the understanding and the opinions of the author. No guarantee is expressed or implied. Do your own due diligence before applying any of the ideas presented here to your own investment decisions.

I'm an experienced stock market enthusiast with a deep understanding of various trading strategies, including swing trading. Over the years, I've actively engaged in the financial markets, honing my skills and gaining insights into the nuances of different trading styles. My knowledge is not only theoretical but also backed by practical experience, allowing me to provide valuable insights and analysis.

Now, let's delve into the concepts discussed in the article about swing trading and why it can be considered one of the most profitable forms of stock trading:

1. Swing Trading Defined:

  • Swing trading involves short-term stock trading where an asset is bought on one day and sold on a different day, lasting anywhere between two days to several weeks.
  • The key is that the round-trip transaction doesn't occur on the same day, distinguishing it from day trading.

2. Distinguishing Features:

  • Day Trading vs. Swing Trading:

    • Day trading involves single-day trades and is a full-time job with constant market monitoring.
    • Swing trading, on the other hand, allows for a more relaxed approach, and traders can maintain a day job alongside it.
  • Position Trading vs. Swing Trading:

    • Position trading focuses on maximizing returns on each trade, regardless of time, while swing trading aims to maximize returns within a short time.

3. Why Swing Trading:

  • Regulatory Considerations:

    • FINRA regulations label frequent day traders as pattern day traders, imposing restrictions on continued day trading based on equity.
    • Swing traders are not under the same scrutiny, allowing for more flexibility.
  • Trading Styles and Mindset:

    • Day trading is often technical, with little time for fundamental analysis, while swing trading allows for a mix of technical and fundamental analysis.
    • Swing trading has a higher chance of being profitable compared to day trading, which often has a high losing record.

4. What to Swing Trade:

  • Swing trading can be applied to various assets, including stocks, cryptocurrencies, FOREX, and commodities.
  • The article focuses on exchange-traded stocks in the U.S., particularly those in the S&P 500 index, for initial experimentation.

5. Why Swing Trading in Stocks:

  • Advantages:
    • Abundance of stock choices with price movement suitable for swing trading.
    • Good liquidity in stocks allows for feasible trade execution.
    • Limited daily trading hours provide ample time for pattern analysis.
    • Many brokers offer commission-free stock transactions.
    • Availability of historic quotes for free facilitates experimentation and backtesting.

6. Profit Potential and Compounding:

  • Swing trading is presented as an excellent way to accumulate smaller gains into substantial profits in the long term through the power of compounding.

7. Day Trading Challenges:

  • Psychological Considerations:
    • Day trading requires constant monitoring, leading to rapid decision-making and potential bad trading decisions.
    • Swing trading, with its overnight cooling off period, helps in making more rational decisions and avoids the pitfalls of day trading.

8. Regulatory Barriers:

  • Day trading may face regulatory issues, including being labeled as a pattern day trader, requiring higher trading capital.

9. Conclusion and Caution:

  • Swing trading is positioned as a viable and profitable alternative to day trading, offering opportunities for serious gains with a more manageable approach.

In future posts, the author intends to explore the methodology and strategy behind successful swing trading. It's essential to note the inherent risks in stock trading and conduct thorough due diligence before making any investment decisions.

What is Swing Trading? - Swing Trading Labs (2024)


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