Swing Trading Setup Explained (2023): Complete Investor's Guide (2024)

Just like swing-style jazz, the market has a certain rhythm to it. A recognizable pattern, oscillating up and down.

We can get into the rhythm and dance to it like swing dancing, only in the stock market, this is called swing trading.

Swing trading, similar to swing dancing, is moving with the flow of the market, moving with the rhythm of the swings. The ‘music’ produced by news and technical data creates a predictable rhythm traders can follow and capitalize on.

So how can we tune into this ‘music’ to start profiting in the market? There are several telltale signs or indicators to look out for, and once you become familiar with those, they can be incorporated into various investment strategies.

We’ll first touch on what swing trading is specifically and discuss some key indicators, and later on, we’ll put everything together into some useful strategies you can follow to realize a profit.

What Exactly is Swing Trading?

Swing trading is a type of short-term technical analysis-based trading that is used to invest in financial instruments such as stocks, futures, and currencies. The goal of swing trading is to identify intermediate-term trends and to hold positions for a period of several days to several weeks in an attempt to profit from price changes or ‘swings’.

To swing trade, traders typically use technical analysis to identify potential trades and to determine their entry and exit points. Technical analysis involves the use of chart patterns, trendlines, and various technical indicators to analyze price movements and make predictions about future price direction.

How Does Swing Trading Work?

Swings in price can be created in virtually an infinite number of ways. There are so many different moving parts that investors have developed tools to help make the process of predicting swings a little easier.

Building off of technical analysis, indicators are what you’ll be looking for when conducting analysis. It could be that the current share price dipped below its 90-day moving average, or that a price seems to not be able to break above a certain price ceiling.

Understanding what to look for in your analysis is the key to swing trading. And learning what works for you just takes practice.

Examples of Swing Trading

Let’s say that an investor is bullish on Amazon because of a stock split. Let’s say it’s currently trading at $50 per share. The investor feels that the stock has the potential to go up in the short-term, so they decide to buy 100 shares.

A few days later, Amazon’s price swung up to $55 per share, and they decided to close the position. The total profit from the trade is $5 per share, or $500 in total (100 shares * $5 /share).

This trade is considered a swing trade because it is not held for a long time, typically just a few days or weeks. Because as we just touched on, swing traders aim to take advantage of short-term price movements, rather than holding a position for a longer period like a buy-and-hold investor might.

The Basics of Swing Trading Techniques

After understanding the basics of swing trading and technical analysis, you’ll start to recognize key indicators that signal a potential swing in the future. Most of this has to do with recognizing a pattern or indicators within a specific set of criteria.

This process can evolve into one that is more or less intuitive, you may get an inner sense of “oh yeah, I’ve seen something like that before”. Understanding this, you might recognize the value of keeping track of your trades, and even your thoughts, goals, frustrations, and the like. Understanding what has happened in the past can give you a better sense of what’s to come in the future.

We’re going to highlight here some of the more important factors to keep your eyes peeled for when trading.

Technical Indicators

The use of indicators to predict the movement of a security’s price is a quintessential part of technical analysis. There are tons of different indicators you can use, some work well under a specific set of circ*mstances, and others just click or make sense to you.

It’s worth exploring the different indicators and experimenting a little to find those that resonate, and that you’ve perhaps realized the most success with. You can always keep a log or a trade journal to record what indicator you’ve looked at, what it was indicating (a bullish or bearish move), and what the result was after to build a sort of reference guide.

Let’s jump into the most commonly used ones to give you a good starting point.

RSI

The relative strength index (RSI) is a momentum indicator that helps show investors if security prices’ are overbought or oversold. RSI is on a scale of zero to 100, and those values are shown graphically.

Most investors deem an RSI value above 70 as an overbought security, and an RSI value under 30 as an oversold security. What this tells investors is, if a security is in overbought or oversold territory, there will likely be a reversal in the price’s direction.

Moving Averages

A moving average is an indicator that tracks the average price of a security over a certain period. Moving averages are often categorized as short, medium, and long-term. This can be 10, 50, and 200 days, for example.

There are also simple moving averages (SMA) and exponential moving averages (EMA). Where EMAs react more to recent price movements, being more ‘weighted’ in the front, and SMAs are equally balanced throughout the period, so price movements affect the whole average equally.

One of the things swing traders are on the hunt for are intersections in the moving averages. If there is an intersection of the short-term and long-term moving averages, for example, it is a strong indicator that the security could be shifting its momentum.

Bollinger Bands

Bollinger Bands were developed by the famous investor John Bollinger as a technical analysis tool. The goal was to have another tool that could help investors spot periods of, again, where a security may be overbought or oversold.

Bollinger Bands are an aggregate of three trendlines. First, the SMA of the security, and then an upper band and a lower band. The upper and lower bands are two standard deviations from the SMA.

Bollinger Bands can be adjusted to your preference, so you can change the moving average from a 30-day to a 90-day, for example. Yahoo Finance has some very useful graphsfor securities where you can add multiple indicators including Bollinger Bands.

Triangle Patterns

A triangle (or pennant) pattern is a chart pattern that is formed when the price of a stock or other security squeezes within a narrow range, creating a triangular shape on the chart. Triangle patterns can be either bullish or bearish, depending on the direction of the breakout and the overall trend of the stock. There are three main types of triangle patterns: symmetrical triangles, ascending triangles, and descending triangles.

Symmetrical triangles are formed when the price is squeezing within a range and the trendlines connecting the highs and lows of the price action converge towards each other, creating a symmetrical triangle shape. A symmetrical triangle pattern is typically considered a neutral pattern, and the direction of the breakout (up or down) will determine whether the pattern is bullish or bearish.

Ascending triangles are formed when the price is squeezing within a range and the trendline connecting the lows of the price action is rising, while the trendline connecting the highs remains horizontal. An ascending triangle pattern is typically considered a bullish pattern, as it suggests that the bulls are in control and the price may break out to the upside.

Descending triangles are formed when the price is squeezing within a range and the trendline connecting the highs of the price action is falling, while the trendline connecting the lows remains horizontal. A descending triangle pattern is typically considered a bearish pattern, as it suggests that the bears are in control and the price may breakout to the downside.

Flags

As the name depicts, once two parallel trend lines are drawn, the chart pattern looks like a flag. The flag can be pointing up, down, or sideways. When the flag points downwards, it signals a bullish (upward) trend; when the flag points upwards, it signals a bearish (downward) trend.

A flag pattern is formed when a stock’s trend pauses temporarily, and then moves in the opposite direction of its most recent trend.

Point of entry, or where you should buy or sell: As soon as the flag begins to continue its previous trend before the flag was formed. In the below image, there are two flags pointing down, which indicates a bullish move in the stock’s price.

Swing Trading Setups

Swing trading setups refer to the specific criteria or conditions that a trader looks for to identify potential trades. These setups can vary depending on the trader’s strategy and the market conditions, but often include technical analysis techniques, such as identifying support and resistance levels, chart patterns, and indicators, as well as some fundamental analysis techniques such as analyzing earnings reports and economic indicators.

You can also look at a setup as a sort of all-in-one investment package. It comes with a stock (or sector) an investor is analyzing, an indicator (or a set of them) to help identify when to enter and exit, and therefore, a start-to-finish strategy or setup.

We’ll highlight the best, most common setups/ indicators successful swing traders use. Let’s jump in.

Mean Reversion Setups

Mean reversion is a statistical concept that suggests that prices of a financial instrument tend to move back toward the average price over time. In the context of swing trading, mean reversion can be used as a strategy to identify potentially overbought or oversold securities and to trade on the expectation that the price will revert to its average.

So let’s say we see a huge swing in Lockheed’s price one day and it plummets. That’d be pretty random, because historically, Lockheed’s stock (LMT) price has been consistent and stable, so we can reasonably assume that its price will return to its long-term average after investors have had a chance to calm down from whatever the reason was that caused it to sink.

Pros:

1. Mean reversion is a very tried and true concept that has passed the test of time. So as long as you have time, statistically, you should realize profit eventually.
2. Mean reversion strategies can be effective in ranging or sideways markets.

Cons:

1. Mean reversion may not be as effective in trending markets.
2. Mean reversion trades can be risky if the price does not revert as expected. It’s easy to get comfortable with a setup like mean reversion, but stay vigilant! Not all securities return to their mean.

Momentum Trading Setups

Momentum is an interesting phenomenon in nature. We see it represented in humans all the time, like how France almost overtook Argentina at the end of the 2022 world cup finals game, after making essentially zero progress in the earlier parts of the game. How and why does that happen?

Well, we can save some time here because we don’t really need to know why or how momentum builds, but rather just be aware that it can, and does. In the stock market, an example of this could be that a stock’s price begins to rise, and then all of a sudden it’s on the news, people are talking about it on the internet, its price is skyrocketing, and then a few weeks later nobody is talking about it.

This is a basic example of what happens with momentum trading. You ride the ‘hype-wave’ up, and sell at as close to the peak as possible. This is a swing trading strategy, but is also used often in day trading, as there can be micro trends that happen intraday, and you can profit from those short bursts of momentum.

Just make sure you hop on the bandwagon early! The best way to stay up to date is to read, listen, and discuss the market as much as you can. Momentum trading takes some practice, especially when you’re trying to spot the entry and exit points, so if you don’t have a lot of time on your hands, you can always sign up for swing trade alerts and follow those signals to help save some time and headache.

Pros:

1. Momentum trading can be a useful strategy for identifying strong trends and for riding those trends for profit.
2. Momentum trading may be particularly effective in trending markets (as opposed to mean reversion).

Cons:

1. Momentum trading can be risky if the trend reverses or the momentum fades.
2. Momentum traders may need to be nimble and able to adjust their positions quickly in response to changing market conditions. This can require the trader to spend a lot of energy constantly tweaking the position(s).
3. Momentum trading may require a higher level of risk tolerance and may not be suitable for all investors.

Gap and Go

Gap and go! A short, simple & sweet strategy to use right as the market opens. What happens is, as you have probably seen if you’ve watched the market before, right when the market opens it explodes with activity. A gap in price is created between the previous day’s close and the opening price.

Identifying securities that have gapped up or down in price at the opening of the market and trading on the expectation that the gap will continue to be filled in the direction of the gap. So the difference in the price points is where and how you profit with a gap-and-go setup.

Pros:

1. Gap-and-go can be a simple and effective strategy for taking advantage of price movements at the open of the market.
2. Gap-and-go trades can potentially provide quick profits if the gap is filled as expected.

Cons:

1. Gap-and-go trades can be risky if the gap does not fill as expected.
2. Gap-and-go may require quick decision making and the ability to enter and exit positions quickly.
3. Gap-and-go may not be suitable for all traders and may require a higher level of risk tolerance.

Stock Splits

Stock splits are corporate actions in which a company increases the number of its outstanding shares by issuing more shares to its shareholders. Stock splits can be used as a strategy by swing traders to potentially profit from the expected price changes that can occur following a split.

For example, if a swing trader is bullish on a stock that is about to undergo a split, such as Amazon in March of 2022, they may decide to buy the stock before the split in anticipation of the price going up after.

On the other hand, if a swing trader is bearish on a stock that is about to undergo a split, they may decide to sell the stock before in anticipation of the price going down after the split.

Oftentimes, but this does not always hold true, after a stock split there is a price decline, followed by a steadier, longer-term increase in price. You can always look for dates of stock splits and compare them to different charts to see the market’s reaction to them.

Pros:

1. Stock splits can potentially create buying opportunities for traders.
2. Stock splits may lead to increased liquidity in the market, which can make it easier for traders to enter and exit positions.

Cons:

1. Stock splits may not always lead to price changes as expected.
2. Stock splits may not be suitable for all traders and may require careful research and analysis to determine their potential impact on the price of the security.
3. Stock splits may not be as relevant in today’s market as they were in the past due to the widespread use of fractional shares.

Fibonacci Retracement

The Fibonacci retracement pattern creates support and resistance lines that are based on Fibonacci ratios. This can be a helpful alternative for investors who might be having a hard time identifying support and resistance lines, as the calculations in this strategy can show you where they might be.

To create the lines, first, find a security’s price graph and identify two points that are at either extreme, a peak, and a trough. The vertical distance between those two points is then divided by the Fibonacci ratios: 23.6%, 38.2%, 50%, 61.8%, and 100%.

Once an investor has those values, they’re plotted on a graph and horizontal lines are drawn, creating the possible support and resistance lines like in the image below.

Pros:

1. Fibonacci retracement can be a useful tool for identifying potential areas of support and resistance in the market.
2. Fibonacci retracement can be used in conjunction with other technical analysis tools to confirm trade signals.

Cons:

1. Fibonacci retracement may not be as effective in trending markets.
2. Fibonacci retracement levels are based on subjective measurements and may not always be accurate.
3. Fibonacci retracement may not be suitable for all traders and may require careful analysis and interpretation to be effective.

Advantages and Disadvantages of Swing Trading

Short-term trades: One of the main advantages of swing trading is that it allows investors to benefit from short-term price movements without the need to constantly monitor the market, which is great for those with busy schedules.

Potential for profit: Another advantage of swing trading is that it allows investors to potentially profit from both up and down moves in the market. By identifying intermediate-term trends and holding positions for a period of several days to several weeks, swing traders can potentially profit from both the up-and-down swings in the market.

Use of technical analysis: Swing traders often use technical analysis to identify potential trades and to determine their entry and exit points. This can be an advantage for traders who are skilled in the use of technical analysis and who are comfortable making trading decisions based on chart patterns and technical indicators.

Risk of losses: As with any form of trading, swing trading carries the risk of potential losses. Traders can lose money if the market moves against their positions or if they make poor trading decisions. And often these losses are significantly more than say a day trade loss, so good execution is key.

Need for discipline: Successful swing trading requires discipline and the ability to stick to a plan. Those wishing for success need to be able to resist the temptation to deviate from their plan or to hold onto losing positions for too long. Greed is a volatile and dangerous ingredient to throw into investing…

Final Thoughts

Swing trading is a popular strategy among traders who are looking to capture short-term price movements in the stock market. By using techniques such as identifying support and resistance levels, various indicators of a price reversal, and incorporating that into their fundamental analysis, swing traders can realize a profit from both uptrends and downtrends.

It is important for traders to thoroughly research and educate themselves on the various techniques and strategies used in swing trading, as well as to carefully consider their own risk tolerance and financial goals. With the right knowledge and discipline, swing trading can be a rewarding way to participate in the market.

In summary, swing trading involves identifying short-term price movements in the financial markets and taking advantage of these movements through the purchase and sale of securities. While it carries its own set of risks, swing trading can be a potentially profitable strategy for traders who are willing to put in the time and effort to learn and master the necessary techniques.

Swing Trading Setup: FAQs

What is the Best Swing Trading Strategy?

The strategy that is best for swing trading depends entirely on the individual investor and their goals. In a general sense, perhaps the ‘best’ strategy is to aggregate as many strategies, or indicators into a single decision as you can – giving yourself the highest chance to profit.

Through trial and error, you can discover what indicators and strategies resonate with you and employ those. Maybe using Bollinger Bands just makes sense to you and using MACD crossover doesn’t as much.

Keeping a trade journal to document what strategies you employ and how successful (or not successful) they were might be helpful.

How Do You Find a Good Swing Trade Setup?

We’ve highlighted here some of the most commonly used strategies that are effective to many investors. The key to finding a good strategy, or the best one, is to test them out for yourself. You can get a trading account that allows you to paper trade and start practicing the strategies.

You can also get a trading journal and start documenting the progress of different strategies you use. Write down the day, time, stock, what might go into the investment decision, how many shares, when you’d enter and exit, etc.

There is no one-size fits all strategy with swing trading. But that’s the beauty of it. Find a strategy, or create your own that is unique to you. That’s the best swing trading setup.

Is Swing Trading Still Profitable?

Swing trading is absolutely profitable. In fact, it is the primary strategy employed by TTA in its portfolio. This is a strategy that has been around since the birth of the stock market, proving itself time and time again.

At the core of its philosophy is the premise that the swings are based on human psychology, ultimately. And we’re never going to be perfected in balance, especially since there are millions and millions of investors with the same access securities.

Because of this, you can always count on there being swings, and therefore count on there being an opportunity to profit.

What is the Best Pattern to Swing Trade?

There is not necessarily a chart pattern that is best in a general sense, but one could be the “best” chart pattern given a specific circ*mstance.

Different chart patterns indicate different potential moves in price. If other indicators seem to point to the same pattern that the chart pattern is, you can assume you’re having a higher chance to predict correctly.

What is the 5 3 1 Trading Strategy?

The 5 3 1 trading strategy is a method of allocating assets in a portfolio in which an investor holds a diversified mix of 5 different asset classes in relatively equal proportions (20% each), followed by 3 additional asset classes in relatively equal proportions (33.3% each), and finally, a single asset class (50%). Hence, “5, 3, 1”.

This strategy is designed to help investors diversify their portfolio and manage risk by allocating assets among a variety of different asset classes. The specific asset classes and the proportion of each can vary depending on the investor’s goals and risk tolerance.

Is Swing Trading Safer Than Day Trading?

It is difficult to say definitively whether swing trading is safer than day trading, as both strategies carry their own set of risks and rewards. Whether it’s safer or not depends on what your goals are and level of risk tolerance. Here are a couple factors to consider:

1. Swing trading generally requires less time commitment than day trading, as positions are held for longer periods of time (days or weeks) rather than just a few hours.
2. Swing trades are held for longer periods of time, there may be more opportunity to adjust or exit a trade if it is not going as planned, compared to a day trade which may need to be closed out quickly.