Swing Trading Strategies
Swing Trading Strategies
Unlike day trading which we primarily focus on in the BearBull Traders chat room each morning, swing trading involves taking a position and holding it after the market closes. The duration of the hold can be as short as overnight to up to several weeks depending on the investor’s outlook for the particular position. In comparison, a day trader always closes the day in a 100% cash position.
Both types of trading have similarities in that the investor looks to capture gains from trades where momentum is in their favor, be it down (short) or up (long). Swing traders can see significant gains just holding overnight under the right conditions, which makes this type of trade attractive. Every trader has seen the “gap ups” or “gap downs” that happen when the market opens and thought, I wish I had bought and held that stock yesterday. Hindsight is always 20:20.
However, with the potential for large gains also comes the added risk associated with holding a position after the market closes. Events can happen after the market has closed that may negatively impact your position leaving the swing trader stuck holding a loser. By the time the market reopens, the position could end up resulting in a big loss. You never get big rewards without taking on big risks at the same time.
The following are the kinds of after-market events that can take the wind out of what you thought was a good looking swing trade position:
- A secondary stock offering. The secondary offerings are usually done by companies that need to raise more capital to sustain operations while they develop a product or service. These offerings are also usually done when their stock price is moving higher which would lead you to think you “on a good roll” with your long position. Secondary offerings are always done below-market prices and are dilutive (more shares get released for trading) which means stock price usually “gaps down” when the market reopens.
- Any negative announcement about a product or service provided by the company. Drug companies are a great example of this type of event where the results of a drug trial fall short of expectations. Look out below – small-cap biotechs have lost 75% and more of their value overnight. Ouch.
- An earnings report that did not meet expectations. Earnings reports are always a crapshoot for me. I never hold a long or short swing position through an earnings report – I have been burned too often on these. Sure there are good long position gains if the company exceeds on every line item and beats market expectations but the potential for losses is also possible. For example, even if the company reports good top and bottom-line numbers, they can still make some comments on forwarding guidance for earnings that the market did not expect. The bottom line for me is I do not play these earning report events.
- Short sellers reports. There are a number of firms that specialize in looking for companies where they can make an argument that the business model is flawed or not what it appears to be. Citron is a great example of a research firm that can move the market price of a stock. I am sure they make a fortune shorting stocks and then release a report questioning a company’s outlook. Look at what their release did to Shopify on October 4, 2017. Their record is not perfect in the long term as they also suggested NVidia was overpriced in December of 2016 and it fell 6% to about $108 that day. It is now trading around $195 per share 10 months later. Citron and other “research” firms like them can move markets and get caught on the wrong side of one of their calls can be painful.
- A rating downgrade or upgrade by a brokerage research arm can also cause a stock price to move when released after normal market trading hours.
- Any other negative announcements such as a data breach, SEC investigation, a pending lawsuit announcement can hurt you if your long. Positive announcements such as the introduction of the new product, partnership with another company, resolution of a lawsuit can hurt you if you are short.
In summary, there are lots of events that can turn your potential winner into a big loser and many of these announcements will happen when the markets are closed. On the positive side, you can eliminate a few of these risks with a little research.
Finding a good swing trade partly depends on technical analysis and often some fundamental analysis as well. Below are some of the parameters and rules of thumb that I follow in picking out potential winners.
This market has been on an amazing bull run with no big corrections since the 2007 bottom. Traders that have been in the market for the last 10 years do not know what a bear market looks like but I would bet my last dollar a bear market is coming……like death and taxes it will happen but the question is when. Until then, the trend is your friend and for the most part, it has paid to stay long. Long swing trades in a bull market will generally work out better even if you happen to buy before a profit-taking type day. Bargain hunting buyers may get you out of a bad entry with the buy on the dip mentality in a bull market run.
Sectors are specific to a type of business such as technology, biotech, metals, and retail to name a few. You can further break down sectors into subsectors such as chip stocks in technology or gold stocks in metals. It pays to know what sectors are performing well and which ones are not. Taking a long swing position in a hot sector has better odds of performing well compared to taking a position in a sector that is flat or declining.
You can stay educated on which sectors are doing well using different references such as heat maps that your broker may provide in a trading platform, listening to business news such as CNBC or various market publications.
Below are some of the technical patterns I might use to decide on entering a stock position:
- double bottom for a long
- double top for a short
- bull flag for long
- cup and handle for a long
- break-out to new highs or breaking down
- breaking support or resistance
I will not explain all these patterns but as a trader, you should be able to recognize them on a chart. If not, you need to hit the books as they are important to recognize no matter what kind of trading your doing.
You may also enter a trade based on news flow which can be a catalyst for a couple of days before the stock price gets extended either to the upside or downside. It could be a very recent announcement or anticipation of an event such as a new Apple iPhone. Regardless, some fundamental analysis or news flow, either in the past or anticipated in the future will likely play a role in your decision to take a position. This will also likely determine the timeline of your trade.
Timeline for entry and exit
Swing trades can range from an overnight hold to several weeks. This trade time duration is a factor you should decide on prior to entry. This timeline will be based on the reasoning you’re entering the trade. For example, if you are thinking Apple will run up into a new iPhone release as it has in the past then the timeline is from when you enter the trade to just before the actual release (a sell-off often occurs after the event). If a company just released the results of a positive phase 3 drug trial and is finishing strongly into the close, then you might decide to buy and hold overnight, hoping for a gap up in the morning as the news is further disseminated.
Like a lot of other types of trading, it is important to plan your trade and to assess your risk and your reward for swing trades longer than an overnight hold. The risk and reward potential on the trade will be primarily determined by a technical analysis of the stock’s price action. Determining a stock’s prior areas and resistance and support in a similar way we look at day-trades in the morning will provide you with your exit strategy. You should be targeting a risk-reward of at least 1:3. In other words, your downside should be a 1 unit and your upside should be a 3 unit gain.
For example, if you are looking to go long a $50/share stock and prior support has been identified at $49.5 (difference of $0.50) then you should be looking to see a gain of at least $1.50 (3 times $0.50 = $1.50) or price target at $51.5/share. If the next level of resistance is identified at $53/share you have an upside of 6 times and this trade looks even better than the 1:3 ratio.
The one positive aspect of swing trading – you can slow things down and little and take the time to assess a trade. With day trading you need to make quick decisions on entries and a good entry can make the difference between a great trade versus a bad trade. With swing trading, you can take your time to assess a trade thoroughly before taking any action
My Rules and Strategies for Swing Trades
- Do not hold a swing trade through an earnings release. To me, this is like betting red or black on a roulette wheel. I do not like 50:50 odds on a trade. A company can look like it is doing great but negative forward guidance (anticipated business going forward) given on an earnings call can cause a stock to sell off even with a good financial earnings report.
- Avoid other binary events like the release of the results of a drug trial. There are countless examples of stock prices dropping 75% and more on a bad result. Good results can be a windfall but bad results can wipe you out. As with earnings events, I do not like gambling on this type of event.
- For longer-term swings, look for stocks that have a fundamental story that will carry the stock price higher. Examples would be BABA for a “singles day” price run-up for the event on November 11 every year: stock price usually runs up into that event. The old adage of “buy the rumor and sell the news” usually applies. I like to take profits before the event – could be a full sale or scale-out but do not overstay your position.
- Look at the technical moves in the stock price and have a trading plan before you go long or short. That means you know where you will exit whether you are right or wrong on your trade. Double bottoms are one of my favorite setups for a long trade because it is easy to define the risk, which is a drop below the second bottom. Your first exit should be some level of résistance that gives you a 1:3 upside as discussed earlier. With strong stocks that are experiencing some short-term profit-taking, double bottoms are great patterns to trade with good odds of rebounding higher.
- Never let a winning trade turn into a loser. If you have some good gains on a position, sell some and move your stop up to break-even or above depending on your assessment of support or resistance.
- Know when to fold-em. If your position is not working out, cut your losses. You will not always be right, accept it, trade your plan, liquidate your position and move on.
- Look for over-reactions in the market – these are gifts if you can find them at the right moment and wait for a reversal pattern.
- I like to keep a couple of hot stocks always on my radar. The ones that are trending higher and always seem to get bought back on a dip. NVDA is one that I always watch. Biotechs have been hot so I keep LABU on constant watch. During the trading day, opportunities may pop up that gives you an opportunity to profit. For example, October 18, 2017 NVDA sold off on some news that Bitcoin price dropped. NVDA started with a gap up but in 30 mins it dropped about $5/share – however on a bit of a double bottom it made back most of those losses closing almost flat for the day. The challenge is finding that level where it will reverse and not keep dropping – patience is key and waiting for a pattern to trade (like a double bottom). I have a small swing position in NVDA and I stayed long through the sell off, bought some around the bottom and the sold it to return to my original position size.
- Keep in tune with what is “hot” in the market and then keep these on your radar. For example, the last couple of years, big money has been chasing Marijuana stocks. Finding and riding these hot sector plays can be very profitable if you get in early. I try to stay on top of market news flow from numerous sources and look for these types of opportunities.
- Some people do not like trading ETF’s however, trading a basket of stocks can take the risk out of an unfavorable event in a single stock. These can make for good hot sector swing trades but you need to understand what your trading. There are lots of ETFs now and some are levered which means they move more than the underlying assets. Bottomline – know what you trading and what the risks are before entering a trade, especially with levered assets.
Much of trading is practice, recognizing opportunities and discipline to cut your losses when you are wrong. The other challenge every trader faces is not selling too early. Scaling out will help you avoid missing out on a run while taking profits along the way.
I have shared some strategies that have worked for me. I am not recommending taking a position in any specific stocks and you need to make decisions on purchases based on your own particular situation or with the assistance of your financial advisor.
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