Plenty of people say they don’t have time to be an effective trader, constantly monitoring the market, but if you don’t have much time to dedicate to sitting at the computer watching stocks, swing trading could be your happy medium.
Swing trading is a short-term strategy that some traders use to profit from price swings in a stock or exchange-traded fund (ETF). Swing trades can last anywhere from a few days to a couple of weeks.
There are three main swing-trading strategies, or systems, to consider when you’re starting out. They are fundamental, technical, and catalyst trading.
With fundamental swing trading, you’re looking at the fundamentals of the stock and how it may perform based on valuation ratios or company developments. Thus, you believe that a stock’s price is related to its operating activities.
There are a few ratios that traders like to use when valuing a stock, including the price-to-earnings ratio, price-to-book ratio and prices-to-sales ratio. These give swing traders an idea of whether a stock is overvalued or undervalued in relation to its industry. Consequently, if a stock is undervalued compared to its peers, swing traders may want to get long the stock.
Let’s take a look at an example of a potential fundamental trade with American Airlines Group Inc. (AAL). Here’s are some of the key statistics and valuation ratios on the company:
Based on these valuation ratios, AAL has attractive price-to-earnings and price-to-sales in relation to the industry average, which some traders might see as a basis for going long.
By comparison, some swing traders base their system solely on technicals and technical indicators, looking at the price and volume in a stock for some pattern that indicates the direction of future price movements.
One particularly useful indicator is the simple moving average, a dynamic average of a stock’s price over a specified time frame. The most commonly used time frames are the 20-day, 50-day and 200-day. Generally, when the moving average from the shorter time frame crosses above the longer-term moving average, it can be an indication of a reversal, or bullish trading.
Check out the daily chart on Amazon.com Inc. (AMZN)
In this example, the 20-day moving average crossed above the 50-day SMA, and consequently, some technical swing traders may have gone long the stock here.
Here’s how the stock traded afterwards.
Obviously, in this case, the crossover was a solid indicator. It won’t always work out so well, but this shows why new traders should be looking for indicators.
A catalyst swing-trading strategy involves trading stocks facing some type of positive or negative news, which acts as a catalyst to move the share price. For example, if a company releases its quarterly earnings results and beats Wall Street’s consensus estimates — and also increases its earnings guidance for the full year — some swing traders may see this as a bullish catalyst and look to get long the stock.
There are many potential catalysts out there, and they go far beyond earnings reports. They include mergers and acquisitions — even rumors of deals — stock-dilution events, strategic partnerships, FDA approval or positive clinical trial data (for biotech and pharmaceutical stocks), new product releases and more.
The Bottom Line
There are a multitude of indicators and a few swing trading systems that you might want to employ. When first starting out, however, look for the system that fits you best and makes you most comfortable before putting your cold, hard cash on the table.
Jason Bond runs JasonBondTraining.com and is a swing trader of small-cap stocks.