The forex market sees a wide range of trading strategies used on a daily basis. Each one of them has its own pros and cons, although some strategies have a better track record than others when it comes to delivering results.
In separating the wheat from the chaff, swing trading has earned a strong base of support among forex traders. It is described by some as a fundamental form of forex trading, because positions are held not just overnight, but often for much longer than a day.
This is because most fundamental traders (or fundamentalists, by another name) are swing traders, basing moves off fundamentals that often require multiple days—or longer—to generate sufficient price shifts that can turn a profit.
As swing trading becomes a more commonplace strategy in the forex market, it’s worth gaining a deeper understanding of what this practice is all about. Here’s a look at the basic strategy behind swing trading.
What Is Swing Trading?
Swing trading is a short-term strategy for a trader who is buying or selling currency using technical indicators that suggest an impending price movement. This trend can span any length of time, ranging from days to weeks. Swing traders place a heavy emphasis on technical analysis as a means of tracking a currency and determining when a “swing” is likely to occur. Swing trading generally means the trader isn’t concerned with the long-term value of a currency; they’re instead looking to profit from peaks and dips in momentum.
Take a look at the big spike in the value of NZD/USD from its low Sept. 2 to the peak of its rise Sept. 6. Although it has been mired in a monthslong decline, the quick four-day rise for the currency pair is exactly the kind of movement that swing traders are looking for:
You’ll also notice a brief period of consolidation before that price breakout, which is a common indicator traders will use to forecast a swing opportunity. In this case, it’s not about the long-term value of a pair, but rather its potential to experience a quick price movement in the near future.
Advantages of Swing Trading
On paper, swing trading carries a sound methodology, but no one can avoid the fact that it’s a fairly risky approach. However, with risk comes reward; swing trading carries a number of key advantages that just might give it an edge over other popular trading methods.
Many trading methodologies have you strapped in for the long haul—long trading hours, long positions, and long-term commitments are often the call of the day. Swing trading takes a different approach, offering traders a huge amount of flexibility. Because you aren’t looking to hold anything long term, working instead from price swings, you have a fair amount of trading flexibility. Jumping between sessions is plausible, whereas strictly day trading is another option. Regardless of your trading-time preference, swing trading is flexible enough to suit.
Trading within clear boundaries
Trading within clear boundaries is advised, though gray areas can appear with some trading strategies. Swing trading is so heavily based on technical analysis that you can establish more control. Trading strategies that emphasize long positions offer up a wide berth on boundaries, but swing trading can make things easier to read.
In swing trading, your stop-losses are small—especially when weighed against longer-term trades. For example, the stop-losses on a swing trade could be 100 pips when based on a typical four-hour chart, but for a stop-loss based on a weekly chart and overall position, you might be staring at 400 pips.
With this in mind, swing trading allows you to opt for large positions instead of those with low-leverage implications that are common with longer-term trends.
Potential to dip in and out of the market
Swing trading allows you the freedom of dipping in and out of the market without too much fuss, so you can identify more trading opportunities. Within nearly any financial chart, you will see evidence of an emerging pattern, but swing traders will be looking for support and resistance.
In the NZD/USD example mentioned above, you can cash out your profits once the currency pair hits a level of resistance. And if you think the currency is going to resume its downward trend, you could even consider shorting the pair to turn a profit on both sides of the price movement.
This is a popular strategy for traders who are working with currency pairs that offer high volatility. USD/SEK is one such pair, offering a high volume of peaks and spikes over time, as its three-month graph illustrates:
USD/SEK is often regarded as a more “exotic” pairing because of its high volatility and, as a result, the high risk that comes with trading it, making it prime territory for swing traders to try to claim some profits off a dramatic price swing.
By moving in and out of the market at the right times, you can sweep up quick profits and set up other trades in the process. Few other trading strategies will allow you to jump in and out of the market quite like swing trading.
Easier movement with the natural flow of the markets
The forex market carries a natural ebb and flow, though it may not seem like it. There is no such thing as a permanent upward or downward trend.
For example, the AUD/JPY pairing is known to mirror global investor sentiments. When the global market for investing is strong, this pairing tends to gain in value. By contrast, depressed investing sentiments are mirrored by the pair’s corresponding price movement. By combining this knowledge with other technical indicators, you can use a pair such as AUD/JPY to capitalize on these ebbs and flows regardless of how the market fluctuates.
In the best-case scenario, swing trading makes it possible to profit from rising prices during a bull market and falling prices during a bear market. Swing trading doesn’t lock you into any particular market, so you can move with whatever the forex market spits out.
Risks of Swing Trading
Although there are profits to be found in swing trading, there are also risks that come with this method. The biggest risk comes during weekend hours, when the forex market is closed. Market changes could cause a price to gap and open at a much different price than its closing, which can put swing traders in a position where even a stop-loss is unable to spare them from a significant net loss.
Swing trading also exposes traders to the ill effects of market volatility, especially given the way swing trades are designed to capitalize on pullbacks and other short-term price movements—many of which may take place within a larger trend. Although volatility generally offers profit potential to seasoned traders, it can increase the risk presented by swing trading.
As a result, traders may miss out on profits that they might have secured just by focusing on long-term trends instead of swing opportunities.
Best Indicators to Use in Swing Trading
Your success in swing trading is largely dependent on the indicators you use to identify swing potential. Here are some of the most popular indicators used by swing traders:
Although they are best used in combination with other indicators, moving averages—especially long-term moving averages—can help you identify trend reversals that signal a swing opportunity, and they can help you understand the general strength of that trend.
When a shorter-term moving average crosses a longer-term moving average, for example, it can be a prime signal of the kind of trend reversal that swing traders are looking for. In the NZD/USD chart below, notice how the 50-day moving average (in green) crosses over the 200-day moving average (red), precipitating a dramatic price drop that swing traders might be eager to capitalize on:
The relative strength index (RSI) is a great tool for identifying potential swing trade opportunities based on bearish or bullish setups—especially for traders who are looking for opportunities within a short time frame.
An RSI above 70 indicates overbought conditions that may precipitate a price decline. An RSI below 30, however, can indicate underbought conditions in which a currency pair is likely to experience a gain in value.
The CHF/USD chart below illustrates both of these swings at work: oversold conditions that lead to a gain in price, followed by an overcorrection that features overbought conditions, promptly followed by a price decline:
Swing traders could potentially open positions on both sides of this price movement, profiting off the price gain as well as its decline within a span of hours.
Lines of support and resistance
If you’re using Fibonacci or other trading theories, lines of support and resistance can help you identify swing opportunities based on your expectation of a retracement or extension.
If you’re watching USD/JPY trade within a range, for example, and the price approaches a line of resistance, you may be eager to open a position with the expectation that the price will reverse course and head toward the correlating line of resistance. You can place a stop-loss above the line of support in case you’re wrong, but this simple approach can make swing trading accessible, and even profitable, to beginning traders.
The long-term view is suitable for some traders, but others want to generate more trading opportunities on a daily basis. Swing trading allows for this by monitoring market movements rather than sitting back and simply waiting for things to fall in your favor.
Overall, swing trading is generating plenty of plaudits among traders as it increases control, trading activity, and—most importantly—profit potential.
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