Swing trading has been described as a kind of fundamental trading in which positions are held for longer than a single day. This is because most fundamentalists are actually swing traders since changes in corporate fundamentals generally require several days or even a week to cause sufficient price movement that renders a reasonable profit. (See Introduction to Types of Trading: Fundamental Traders)
But this description of swing trading is a simplification. In reality, swing trading sits in the middle of the continuum between day trading to trend trading. A day trader will hold a stock anywhere from a few seconds to a few hours but never more than a day; a trend trader examines the long-term fundamental trends of a stock or index, and may hold the stock for a few weeks or months. Swing traders hold a particular stock for a period of time, generally a few days or two or three weeks, which is between those extremes, and they will trade the stock on the basis of its intra-week or intra-month oscillations between optimism and pessimism.
Before we focus on swing trading, let’s review all the other major styles of equity trading:
Scalping – The scalper is an individual who makes dozens or hundreds of trades per day, trying to “scalp” a small profit from each trade by exploiting the bid-ask spread.
Momentum Trading – Momentum traders look to find stocks that are moving significantly in one direction on high volume and try to jump on board to ride the momentum train to a desired profit.
Technical Trading – Technical traders are obsessed with charts and graphs, watching lines on stock or index graphs for signs of convergence or divergence that might indicate buy or sell signals.
Fundamental Trading – Fundamentalists trade companies based on fundamental analysis, which examines things like corporate events such as actual or anticipated earnings reports, stock splits, reorganizations or acquisitions.
The Right Stock
The first key to successful swing trading is picking the right stocks. The best candidates are large-cap stocks that are among the most actively traded stocks on the major exchanges. In an active market, these stocks will swing between broadly defined high and low extremes, and the swing trader will ride the wave in one direction for a couple of days or weeks only to switch to the opposite side of the trade when the stock reverses direction.
The Right Market
It should be noted that in either of the two market extremes, the bear-market environment or raging bull market, swing trading proves to be a rather different challenge than in a market that is between these two extremes. In these extremes, even the most active stocks will not exhibit the same up-and-down oscillations that they would when indexes are relatively stable for a few weeks or months. In a bear market or a raging bull market, momentum will generally carry stocks for a long period of time in one direction only, thereby confirming that the best strategy is to trade on the basis of the longer-term directional trend.
The swing trader, therefore, is best positioned when markets are going nowhere – when indexes rise for a couple of days and then decline for the next few days only to repeat the same general pattern again and again. A couple of months might pass with major stocks and indexes roughly the same as their original levels, but the swing trader has had many opportunities to catch the short-term movements up and down (sometimes within a channel).
Of course, the problem with both swing trading and long-term trend trading is that success is based on correctly identifying what type of market is currently being experienced. Trend trading would have been the ideal strategy for the raging bull market of the last half of the 1990s, while swing trading probably would have been best for 2000 and 2001.