Swing Trading

The Swing Trading System

Swing trading is one of the most popular trading styles used by all types of traders, as it will often present huge potential rewards for those who master the strategy. Swing trading is generally classed as a strategy in which a trader keeps a trade open for longer than 1 day or 2 day s, but here at dodjit we tend to associate the name to the type of pattern that the chart presents.

In general a swing trade is a trade whereas a new price swing penetrates the level of the prior swing in the same direction.

Seems complicated no?

Well, basically we are looking for a trend on the chart, aiming to take the next swing to the next level. For example in an uptrend will be looking for a chart that looks like this, aiming to take each secondary trend higher:


 
As we learnt in the Fibonacci lesson, we are basically looking for a correction to enter the trade and then to profit from the next wave higher. In other words, the strategy requires from the trader to measure the extent of the pullback, make sure that the price is heading in the direction of major trend and then to jump on for the ride. It is important in this strategy to pre-determine the major trend and to take the trade in accordance to the price action.

On the following example you can see a magnified illustration of the previous chart, that shows the ideal entry and exit points of the strategy. This chart is just a simulation but it does give a good idea of what you should be aiming for.
Traders using this type of strategy should be aiming to profit from wave number 2, which is classed as our secondary trend.
 
                      

Ok, now before we head into the strategy lets explain what major and secondary trends are.
According to Dow, you know the guy who the Dow Jones Index was named after, the markets are characterized by three trends:

1. The Primary / Major Trend – This trend normally lasts for over one year and determines whether the asset is in a bullish or bearish market
2. The secondary trend- This trend normally lasts for a few weeks to a few months. Secondary trends can be in line with the major trend or can trade counter to the trend.
3. The Minor trend- This trend normally lasts for a couple of days, up to a few weeks. It is normally affected by economic data,
   

It is important to note that the major trend contains secondary trends, which contain minor trends.

 

To help us distinguish the trading strategy on the charts we are now going to explain a set of rules that should be taken into consideration before entering a trade. 

2) Using Fibonacci to Find the Correction

Once we have determined the major trend the idea is to search for a correction. To help us with this process will we look for a counter trend (secondary trend) and use the Fibonacci tool to measure the extent of the pullback.
In the Fibonacci lesson we learnt that the Fibonacci tool is often used to measure the extent of the pullback, by using three major lines the 38.2%, 50% and the 61.8%.

Remember that if the price pattern stabilizes on one of the lines and heads higher, the correction is classed as a healthy pullback.

Trading Tip – If you recall we tend to search for more than one candle to find support on one of the Fibonacci tools.

Trading Tip- The Fibonacci tool is not the only tool that we can use to reach an assumption about the upcoming trend.

For example we can also use trend line and support & resistance levels; if the pull back comes down to a critical support level it might be enough to reverse and head in the direction that the trader is anticipating.

By taking a glance at our previous example, we can see that the price corrected twice and came down to one of the Fibonacci levels, thereafter heading higher. Now, when entering the trade we can also use the Fibonacci tool to measure the pull back, but we can also use the trend line as extra support.


 
Now that we have plotted all our lines on the chart, the trend lines and the Fibonacci levels, all that is now left to do is to time the entry and using correct portfolio management.

Correct portfolio management?
Yes correct portfolio management. Know your entry point, your stop loss and your exit points. In addition make sure that when you put your orders in the system, you reward is substantially higher than your potential loss.

3) Timing is Essential

Now comes the tricky part, to time your trade.

Remember that trading is all about timing. If you have missed the trade, don’t be greedy and rush to open a position. There are always other positions.

Even though there are numerous techniques of entering a trade, this lesson will explain one popular one based on secondary trend lines. The objective is to try to use a trend line of the correction to enter the trade. For example on the previous trade our entry point would have been once the secondary trend line was broken by the price.
 


According to the previous example we can see that if we fast forward the chart a little, the chart broke out of its correction and headed much higher, turning the position into profitable trade.


 
Trading Tip- Don’t try to grab the whole trend, no one can pin point the beginning and end of the trend. The aim is to enjoy a part of the trend.

4) Stop losses and Take Profits- Your Orders

When placing your stop loss you must remember that there is no right or wrong. Placing a stop loss can often be a difficult task as on one hand placing it too close might get caught too often, even if the price or the chart goes in the direction that you desired.

On the other hand to far could, could end up being a heavy loss for your portfolio.

While some tend to use a rule of thumb, working according to a percentage of their portfolio, for example, you might decide to only risk 5% of your portfolio on each trade. Others tend to use a set rate, for example a couple of Dollars below the entry point, or if your trading Forex a couple of pips below.

Nevertheless, whatever system you are using make sure you secure your account by using a stop loss. It will be quite a shame to have all your account wiped out on one trade.

In the following example we are going to use a simple rule that states the following:

1. First, place your stop loss below the prior low that is of course the prior swing low.
2. Shift the stop loss to your entry point, once the price has exceeded the prior high
3. Move the stop loss in the direction of the trade, to lock in gains

View the following chart for illustration.

 
Regarding your take profit, you can either use an upcoming resistance level or a trend line. If you recall from the support and resistance lesson, prices tend to get stuck around those levels, so if you see that there is a resistance line coming up, you could use that as your target. In the previous example we used the trend line, expecting that the price would hit that level and then reverse.

Conclusion of the Swing Strategy

While the swing strategy is an easy strategy to use it should be adapted to your own trading style. For example, certain traders might find that they to prefer to use a different system to place their stop-losses. Whatever adaptation you might do remember to always maintain correct portfolio management and to make sure that you don’t divert from your trading plan.

In the next lesson we will explain another popular strategy called “Break – Out”