What is swing trading in stock market: Meaning, key strategies & tools

What is swing trading in stock market?

Swing trading is a strategy that capitalises on price swings in the market. In this type of strategy, the position is held for a longer period than a day but shorter than the trend-following systems.

Its principle is basically identifying momentum and capitalising on the volatility of the market by entering trades at a price at which it will change directions.

For instance, imagine you are monitoring the stock of Company XYZ. Over the past few weeks, the stock has fluctuated between ₹50 and ₹60.

As a swing trader, you aim to buy near the lower end of this range and sell near the upper end, capturing the “swing” in price.

Key characteristics of swing trading in stock market

Time frame

Swing trades may last for a few days to some weeks. Traders generally follow both technical and fundamental analysis to evaluate the possibility of price swings.

Market trends

Swing traders concentrate on price trends in the short term. They look for trend reversals or continuations in trends to maximize profit opportunities.

Risk management

Effective swing trading incorporates strong risk management strategies, as traders need to protect their capital while aiming to execute profitable trades.

Swing trading strategies

Swing traders use a variety of strategies, adjusting to their risk tolerance and current market conditions. Here are some popular swing trading strategies:

Trend following

This strategy involves aligning with the current market trend. Traders can use moving averages or trend lines to aid in analysis.

Example: Assume that the stock of Company ABC has been in an uptrend; the stock price rose over the last month from ₹30 to ₹45.

Hence, a swing trader participating in such a trend would look for a minor drop to around ₹42 for buying and hope that the upward trend continues.

Mean reversion

Mean reversion traders believe that asset prices will revert over time to their average or mean prices. This involves buying stocks that have dropped significantly below average and selling those that have risen above average.

Example: Say the stock of Company DEF typically trades for ₹100 but has slipped to ₹85 due to a temporary setback.

A mean reversion trader will buy at ₹85, anticipating a return to the average price of ₹100.

Breakout trading

The idea here is to identify and trade on the breakout of support and resistance levels. This approach involves waiting for price action to break through predefined levels, signaling a possible trend continuation.

Example: Company GHI has been trading between ₹70 and ₹80. The breakout trader would wait for a close above ₹80, then initiate a trade in anticipation of higher prices.

Candlestick patterns

Swing traders often use candlestick chart patterns, such as hammers, engulfments, and dojis, to determine price reversals or continuations

.
Example: If the stock of Company JKL forms a hammer pattern at the bottom of a downtrend, it may indicate a reversal, suggesting the trader should buy.

Tools and indicators of swing trading in stock market

Swing traders rely on a variety of tools and indicators to inform their trading decisions. Some commonly used tools include:

Technical analysis

Utilising charts and indicators like moving averages, RSI (Relative Strength Index), MACD (moving average convergence divergence), and Bollinger Bands helps traders assess market conditions.

For example, a trader might use the RSI to identify overbought or oversold conditions. If the RSI for Company MNO’s stock is below ₹30, it could indicate an oversold condition and a potential buying opportunity.

Chart patterns

Recognising chart patterns like flags, pennants, and triangles can provide insight into potential price movements.

For instance, if Company PQR’s stock forms a bullish flag pattern after an initial upward move, the trader might anticipate a breakout from the flag and prepare to enter a long position.

Volume analysis

Observing volume trends can help validate price movements. An increase in volume during a breakout, for example, may signal stronger momentum.

For instance, when Company STU’s stock breaks above a key resistance level at ₹120, a significant increase in volume supports the validity of the breakout, encouraging the trader to buy.

Advantages and disadvantages of swing trading in stock market

Advantages

Disadvantages

Flexibility: Swing trading is time-flexible. Unlike day trading, where the markets need to be continuously watched, in swing trading, it can be very well balanced with other commitments. High return potential: High returns can be gained in short periods by profiting from the price swings, unlike in the case of long-term investing. Example: If a trader gets hold of a 10% swing in the stock of Company YZA within two weeks, it has the potential to bring fabulous returns. Less stressful: Swing trading can be less stressful than day trading because urgent decisions are not required; neither does it necessarily demand constant monitoring of the markets.

Market risk: Like all trading strategies, swing trading carries risk too. The prices may unexpectedly move. Example: Unforeseen news about Company BCD causes a steep fall in price, negatively affecting a swing trade. Overnight risks: Swing traders face overnight risks due to the holding of positions overnight. One may be exposed to unexpected news that drastically affects prices. Example: An overnight geopolitical event may cause the stock market to suddenly drop, thereby affecting all kinds of positions held by the trader. Requires discipline: Successful swing trading requires one to be disciplined in sticking to the designed strategies and risk management practices.

How to select stocks for swing trading in stock market

One of the essential skills in how to select stocks for swing trading is identifying stocks with potential for significant price movement. Here are some factors to consider:

Market Conditions
Swing traders look for trending stocks or those on the verge of a breakout. Understanding the overall market trend helps traders position themselves advantageously.

Liquidity
Stocks with high liquidity allow traders to enter and exit positions more easily, making them more suitable for swing trading. High liquidity ensures smoother trade executions and minimizes slippage.

Volatility
Higher volatility often provides more opportunities for profit in swing trading. Volatile stocks tend to have more price fluctuations, allowing traders to capture profitable “swings” in the market.

How does swing trading differ from intraday trading?

Swing trading differs from intraday, or day trading, primarily on trade duration and the approach taken towards market movements.

Swing trading involves holding positions for a period of days to weeks. This takes advantage of the short- to medium-term trends in prices and fluctuations, or “swings,” in markets.

• For instance, the swing trader would acquire shares of Company XYZ at ₹50, expecting that, based on technical analysis and market trends, the stock wants to rise to ₹60 within two weeks.
• On the other side, intraday trading refers to the buying and selling of financial instruments within one trading day, with positions usually closed before the market closes in order to be protected against risks exposed overnight.
• An intraday trader could buy Company ABC at ₹30 in the morning and sell it at an anticipated ₹32 by afternoon, depending on minute-to-minute price movements, technical analysis, real-time data, and quick decision-making, with the objective to rake in gains from market volatility within a single day.

Conclusion

Swing trading strikes a balance between day trading and long-term investing, offering the opportunity to capitalise on market swings over days to weeks.

With effective swing trading strategies and a solid approach to how to select stocks for swing trading, traders can achieve significant returns while managing their time effectively.

However, success in swing trading requires discipline and a deep understanding of market dynamics.