Whether swing trading or not, the fundamentals of making money in the markets are very similar no matter what time frame we want to trade.
That’s to say that we have to understand the underlying price action that produces the candlestick patterns on our charts.
We have to know precisely what our chosen indicators are telling us.
And, above all, we have to have the self-discipline to stick to sound rules of risk-management, no matter how strong the temptation may be to chase quick profits. These skills come with discipline and experience.
But that being said, there are sound reasons to believe that swing trading may be the best option for retail traders – that’s you and me – and particularly for newcomers to the markets. That’s why we put together the Complete Foundation of Swing Trading in 2020.
What is Swing Trading?
Traders can define swing trading as the trading style that looks for strong moves in price (swings) that typically last for anywhere between two or three days to several weeks.
Sometimes, enormous sums of capital from financial institutions will power significant price trends, which may last for several weeks.
Successful swing trading depends on the accurate identification of the point at which a move is about to begin. Both fundamental and technical analysis can be used for this purpose.
Great care is needed here; because although the concept of a swing might imply a single linear move in price, swing trading does not necessarily mean looking for trend reversals.
It’s just as important, and certainly safer, to look for swing points within existing trends, which will typically appear when price temporarily retraces.
Swing traders generally rely on the daily charts for their trading decisions, although the four hour and one hour charts may help provide more precise entries. A swing trader may also use weekly charts to help identify key support and resistance levels.
The Advantages of Swing Trading
The advantages of swing trading can perhaps best be understood by contrasting this style of trading with the alternatives.
Day traders (also called intra-day traders), are by definition focused on getting in and out of trades on the same day, exiting within a matter of hours or even minutes of placing a trade.
This kind of trading can be very profitable, but it does have some significant downsides –
1) It relies very heavily on rapid, accurate technical analysis, and leaves traders vulnerable to sudden movements in price. These are might be caused by the automated trading systems used by large financial institutions.
2) It requires traders to exercise great powers of concentration during extended periods at their screens.
3) It requires the very rapid calculation of precise position sizes, profit targets, and stop-losses according to the trader’s risk management plan.
4) Placing a high number of relatively small trades will increase transaction costs. These are a trader’s commissions and spreads which will make significant inroads into profit margins.
The polar opposite of day trading is position trading. Here, traders seek to take advantage of longer-term trends that might last for weeks, months or even years.
This trading style, which is often regarded as a type of investment, depends far more on fundamentals than technical analysis.
Traders will take positions based on the expectation of the future performance of different economies. As a consequencece, the strength or weakness of their currencies will usually be reflected in differences between their interest rates.
This kind of approach can be tremendously profitable for financial institutions with ample resources to take a longer-term perspective. However, it can be of little use to retail traders. Their main aim is to make an immediate income from the markets.
Who Swing Trading Works For
In many ways, then, swing trading is ideal for traders who are short on time. These traders neither have the time nor the desire to spend extended periods of each day at their screens.
For part-time traders who also hold down a regular job; or beginners who have yet to decide whether trading is for them, often find that spending time each evening studying the daily charts is a great way to proceed.
This trading style also allows them time to pay attention to global economic and political news impacting the markets.
The principles of swing trading can be applied to any currency pair, or, for that matter, many other financial instruments, such as stocks or futures.
But it’s a style that works best when high volatility is producing large numbers of strong moves. And for this reason, the following major forex pairs have proved particularly suitable for swing trading:
US Dollar pairs such as EUR/USD, USD/CAD, NZD/USD, AUD/USD
Euro pairs such as EUR/GBP, EUR/CAD, AUD/EUR, EUR/JPY
GB Pound pairs such as GBP/CAD, GBP/AUD, GBP/CHF
Japanese Yen pairs such as JPY/CAD, JPY/GBP USD/JPY
Swing Trading vs. Day Trading
There is nothing wrong with day trading in itself.
Some traders make a great deal of money from the hour by hour and minute by minute price movements that happen in the markets every day.
But it takes a great deal of skill, experience, and dedicated practice to do so consistently.
And the stress, pressure, and amount of daily screen time required mean that it’s simply not a realistic option. This is an issue for many traders, particularly beginners.
There are also some very concrete, financial reasons why swing trading works better for most, regardless of their personal circumstances.
Put simply, the wider the spread, the more pips we need to make in order to post a profit.
This doesn’t matter very much for swing traders, who are focused on profiting from larger moves. For day traders intent on scalping just a few pips per trade, here is the problem. The spread (which changes constantly) can be the difference between profit, break-even and loss.
All retail traders are essentially trying to ride the waves created by the largest traders in the market. These waves are the orders generated by the enormous financial firepower of banks, hedge funds etc. The problem is that their interests and ours are not the same.
In fact, the institutions have a clear interest in deliberately taking out the stop-losses of retail traders.
In a bull trend, they will sell to the push price down to where the retail traders have their stops. These are often placed at round dollar numbers.
When the price is reached, the stops will be triggered causing a rush of sell trades which can trigger a further decline in price. At this point, the institutional traders will buy back into the market at the lower price to restart the trend.
This kind of “stop-hunting” is a potential problem for all retail traders. In contrast, it’s far worse for day traders who, almost by definition, have to use very tight stop-losses.
Better still, the longer time scale makes it much easier for us to use mental stops rather than entering them into the market.
Finding the Best Stocks For Swing Trading
Being a successful swing trader will also require you to find the best stocks for swing trading.
As a rule of thumb, the best stocks are large-cap stocks traded on major exchanges frequently. Looking for an active market is important because having a high volume of shares being exchanged makes it quicker for swing traders to buy and sell when a fluctuation occurs.
Secondly, while swing traders profit off fluctuations, it can be risky for a beginner to attempt trades on a very volatile stock.
Instead, you should look for stocks that have consistent trends upwards or downwards. This will offer you some protection from surprises in the stock market and make your strategy more viable for the long-term.
However, finding the best stocks for swing trading is step one in the “how to learn swing trading” steps. Step 2 is creating your strategy.
What is the best Swing Trading Strategy?
There are many common factors in all successful trading strategies. Irrespective how long we want to hold our positions.
To determine the best swing trading strategy, we will always be looking to take advantage of an existing trend or to spot a potential reversal.
Furthermore, we’ll be using a combination of candlestick patterns and indicators to guide our decisions.
Swing Trading Within a Trend
There will be a number of opportunities within an existing trend as price almost invariably retraces or temporarily pulls back.
For example, in an uptrend, we can sell at a swing high; when the price begins to pullback towards a support level. This could be an Exponential Moving Average (EMA).
Conversely, we can also look to buy if the price reaches that support level, as it will often bounce from there.
The converse, of course, applies in downtrends.
In both cases, we will be looking for reversal candles, such as hammers (also known as pin bars) forming at key support or resistance levels.
Without a doubt, it’s important to understand that rarely if ever will a reversal or retracement be indicated by a single candle.
Some common doji candles
A typical swing trade within a bull trend might therefore look something like this –
In this example, both swing highs and swing lows usually form around existing support and resistance levels.
One of the great advantages of this type of swing trading is that the risk and reward calculations allow us to place our stop losses safely below or above those levels. They can be out of reach of the institutional stop hunters
That said, how do we know if a reversal candle indicates merely a temporary pullback or the beginning of a new trend?
The short answer is that we don’t.
But the beauty of swing trading is that we don’t need to know. The longer time scales involved with swing trading mean that both scenarios can be very profitable.
All that’s necessary is that we pay very close attention to support and resistance levels and, particularly, what the candlesticks are telling us.
We can also use the strategy outlined above if price is fluctuating within a range on the daily charts.
Using the 4-hour and 1-hour charts to confirm entries
It’s perfectly possible to trade successfully in this way by looking only at the daily charts. In fact, this should be the basis for swing trading.
That said, it makes sense to seek confirmation of our trade ideas by cross-checking against the 4-hour and 1-hour intra-day charts.
These will often allow us to pinpoint more accurate entries and stops, thereby achieving superior risk and reward ratios. This extra precision can have a significant impact on our long-term profitability.
We take a more in-depth look at using chart patterns as part of a swing trading strategy in this post.
The 3 Best Indicators for Swing Trading
Price action, support and resistance, and candlestick patterns should always be the most important considerations in our swing trading decisions.
Remember, the longer time frames used by swing traders make the candlesticks generally more reliable than on the intra-day charts.
Therefore, profitable swing traders tend to keep their charts as uncluttered as possible, dispensing with many of the technical indicators on which intra-day traders like to rely.
That said, there are some simple indicators that can be of great help in swing trading.
Exponential Moving Averages (EMAs)
Perhaps the most important of these are EMAs. In essence, these are chart lines that show the average price for a given number of time periods. Often they are weighted to give more emphasis to the most recent of the periods.
Charting software allows traders to select almost any number of time periods they like, but the 20 and 50 EMAs are among the most popular for swing trading. These will show a weighted average price over 20 or 50 days on the daily chart.
But whatever period you choose, the key point is that all EMAs tend to function as support and resistance levels.
Traders know that price often bounces off these levels, and many therefore use them as entry levels. To this extent, support and resistance become a self-fulfilling prophecy.
Thus, it’s essential for all traders to be aware of them even if they do not themselves rely on them.
In the context of swing trading, when we are looking for confirmation of a move, a great way to use EMAs is to look for crossovers.
Essentially, when the shorter period EMA line crosses the longer period, this is likely to indicate a potential reversal. It is bullish if the crossover is in an upward direction, bearish if it is downward
When these crossovers coincide with hammer or pin bar candles they offer strong confirmation of a new directional move. Of course, none of these patterns is ever infallible.
Relative Strength Index (RSI)
The RSI is a very popular indicator with traders on all timeframes. The underlying mathematics are complex. It is essentially a measure of momentum that helps us decide when an instrument is “overbought” or “oversold”.
In other words, the RSI shows us when short-term price action has driven price away from its true level, and that a retracement or reversal is becoming likely.
The index provides a real-time numerical rating, oscillating between 0 and 100.
For most traders, the relevant figures to look for are a reading of 70 or above, indicating that the instrument is overbought and that a bearish reversal is becoming likely.
Conversely, an RSI number below 30 suggests that the pair is oversold and that price may soon start to climb.
Another momentum indicator, the stochastic is based on the idea that the impetus of a move is reflected in the difference between the high/low and closing price.
So for example, in a strong bull move there will be little if any upper wick (shadow) on the bull candles.
As the move begins to lose strength, the wicks increase in length, suggesting that the bulls are becoming unable to hold the high point of the candle.
As with the RSI, a complex calculation reduces these visual images to a number, giving an at a glance indication of when a move might be about to stall.
There are innumerable other indicators, such as MACD, Bollinger Bands and Ichimoku, that we might choose to use for swing trading. But the key point is that they are all lagging indicators.
In other words, they’re only reflecting and translating what should already be evident to us from the price action and candlestick formations on our charts.
That’s why some of the most profitable swing traders prefer to trade without indicators.
It doesn’t mean that they can’t be useful. Just that they shouldn’t ever be thought of as a substitute for a thorough understanding of price action and candles.
Conclusion – The Psychology of Swing Trading
We’ve now seen that there are good reasons to prefer swing trading to the intra-day time frames.
But, truth be told, there’s no one right or wrong way to trade.
All that matters is that you find the style that works for you.
And to do this you need to consider carefully your own personal circumstances, your financial goals and the lifestyle you desire.
Perhaps above all, you need to understand your own temperament and psychological makeup, how you like to live and work.
For, make no mistake, there’s no way to trade successfully that doesn’t involve work.
If you’re the sort of person who thrives on the excitement of a high-pressure, fast-moving environment, and the repeated dopamine hits of quick wins, then intra-day trading will probably be your best option.
If you get anxious and stressed when a trade moves against you (however briefly) then swing trading is probably not for you.
That said, for traders with patience to wait for just one excellent set-up a week significant profits are available. However, we must wait for the entry before trading. Once done we must walk away and let it play out over several days. If we can do this, swing trading can be very profitable and can be combined with a regular job.
The choice is yours. Whichever you decide to trade always remember the essentials of price action, candlestick patterns, support, resistance and risk management.