Last Updated on 20 September, 2020 by Samuelsson
If you ever have tried to swing trade the market by using your gut feeling, the chances are that you have not been very successful. The ability to feel what the market is about to do is an ability that very few of us possess.
In fact, so few possess this ability, that it could be said to be pointless to even try to acquire it.
However, this does not mean that every trader is doomed to fail! By using a trading strategy that is properly tested and has been vetted through tough robustness testing, every trader has a realistic chance of becoming profitable in the market!
In this article, we will lay forward a couple of swing trading strategies that we KNOW work, or at least have worked. Knowing whether a swing trading strategy will last going forward is impossible, since the markets change all the time. However, the swing trading strategies we are about to share with you have a solid foundation and work by utilizing behavior in the market that has persisted for a long time, That is also why we believe these strategies have a good chance of working going forward.
However, before we show you these strategies, we will go cover the two big categories of swing trading strategies. We will also provide some strategies that we think demonstrate the logic in a nice way. Just keep in mind that these are just examples and might not work.
The other strategies can be found under ” swing trading strategies that work”.
What Makes a Good Swing Trading Strategy?
While many people believe that a good swing trading strategy is one that incorporates advanced logics and a myriad of rules and conditions, they could not be more wrong! The best trading strategies are those that use few and preferably simple conditions. With more conditions, you run the risk of curve fitting, which in short means fitting your rules to random market noise rather than true market behavior.
Some of our best swing trading strategies are made up of as few as two (!) conditions.
For example, have a look at this swing trading strategy. It consists of not more than 2 conditions with simple logics that everybody can understand, and exits the trade with a simple time exit. These entry conditions are not even optimizable, since they use a greater/smaller than logic!
Why Most Swing Trading Strategies Found Online are Worthless
If you google “swing trading strategies”, apart from this article, you will probably find a few others that present clear rules that they claim work in the markets.
The sad truth is that there are very few strategies like this that work, and there are mainly two reasons for that:
- The swing trading strategy simply holds no merit at all, and is merely somebody’s view of what the market SHOULD do.
- The strategy only consists of buying conditions.
The first reason is very common, and could be said about most popular concepts in trading. Candlesticks, chart patterns, and popular trading strategies; with a few exceptions, none of them work when used in the traditional way.
That is not to say that they are worthless! We use them a lot in our trading, but most times in unconventional and innovative ways, that very few people trade. In general. the more well known a market strategy or tendency gets, the less effective it becomes, since everybody is chasing the very same edge!
Not a Complete System
The second reason simply is that the trading strategy is not complete. When many traders focus on entries, they often forget to even think about the exit. In fact, a profitable system could be turned into a losing system, just by changing the exit condition!
Is there Nothing Good to Find Online?
Well, there certainly is, but for a beginner with no point of reference, it certainly is not easy. This is why we recommend you to never take a swing strategy you read online for a working strategy. Instead, use it as inspiration We certainly have been able to build strategies from ideas that in themselves were worthless, but that managed to spark an idea that led us right eventually.
Having said all this, let’s explore swing trading strategies by first looking at the most common types of swing trading strategies!
Mean Reversion Swing Strategies
Mean Reversion, or regression to the mean, is a concept that was first observed by Francis Galton. In short, it explains how extreme events are very likely to be followed by more normal events. Or in other words, that things tend to even out over time.
In the world of trading, and particularly swing trading, this is a concept that we use a lot – and most importantly – that works! The tendency of a market to overreact and then correct that move, can be seen in many markets, but is especially apparent in stocks and equity indexes.
One of the reasons why mean reversion strategies work so well on these markets, is that they are heavily impacted by greed and fear. While this is true for every market that is traded by human beings, these markets could be said to show more signs of it than others. This is because the stock market is heavily traded by retail traders and largely inexperienced market participants, who tend to play more by their emotions than evidence-backed rules.
The consequence of this is that the market is not priced correctly. Instead, it is a reflection of the current demand and supply, which in turn is a reflection of the mood of the market participants.
Now, since the market is not priced correctly all the time, we are bound to get swings in one direction that go too far, and then are then corrected by swings in the opposite correction. In other words, the market is performing a wild swing, away from its mean, which is followed by the reversion to the mean.
Using Mean reversion Strategies In Swing Trading
So how do swing traders use this tendency to their advantage?
Well, since price tends to swing too far to both sides, they try to identify these situations and go long when the price has swung too far to the downside, and ride the correcting wave up.
Like in the image below:
Traders typically use the terms oversold and overbought when they refer to these levels.
Overbought levels are levels where price has been pushed up too far by buyers
Oversold levels are levels where price has been pushed down too far by sellers.
Disadvantages of Mean Reversion Strategies
Mean reversion strategies often have a high percentage of winning trades. It is not uncommon to get as high as 80% and sometimes even more. However once you get a losing trade, it tends to be quite big!
While this might not seem like a disadvantage, it could become a serious issue for traders who do no realize this tendency. With a high winning percentage, it is easy to become overly confident in the strategy. And if that leads to excessive risk-taking, it could end in disaster once you experience those big losing trades.
However, one of the biggest disadvantages of mean reversion trading is that it requires big stop losses. Due to the nature of mean reversion the more the market goes down, the higher the probability that it will revert soon. That means that if you are stuck in a mean reversion trade that goes against you, for each time the security drops one more point, the better the edge gets. Cutting such a trade and incurring a big loss is not optimal by any means, but is sometimes required to keep the portfolio risk at an acceptable level. As such, a mean reversion strategy might be hard to trade as heavily as another strategy, that has a much smaller stop loss, if you, for example, do not want to risk more 2% of your account on every trade.
Our approach to this is to simply reduce the size of our trading strategies to a size where stop losses are not needed anymore.
Before we go on to showing you how you could trade mean reversion in a swing trading strategy, let’s have a look at the other major category of swing trading strategies.
Momentum Swing Trading Strategies
Momentum trading is the second major swing trading strategy type. Instead of betting that the market is about to revert to its mean, a momentum trader expects the market to continue rising if the market shows upward strength.
In other words, while mean reversion strategies aim to capture the correcting swing of a market that has gone too far, momentum trading strategies make use of the very opposite market behavior.
Using momentum Strategies in Swing Trading
Depending on how you see it, you could divide momentum strategies into two subcategories:
- Breakout strategies
- Trend Following strategies
A breakout occurs when price extends over or under the set breakout level. The idea behind breakout strategies is that if the market is strong enough to reach and penetrate the breakout level, there still is enough strength left for you to profit from.
Trend following strategies are a little different in that they are not that focused on the beginning of the trend. The main focus of trend following strategies is to capture the big moves in the market.
So, while these two make use of the very same market tendency, breakouts trading could be said to take advantage of the beginning of the trend, while trend following tries to capture a substantial slice of the movement that follows the breakout. Here is an image that hopefully makes it all a little clearer:
Still, the distinction we made is not as clear cut as it might seem. Many times, trading strategies do not fall under one category but become mixes of different logics and strategy types. Also, many trend following strategies enter on a breakout.
Disadvantages of Momentum Strategies
Contrary to mean reversion strategies, momentum strategies tend to have very few winners. It is not uncommon to see strategies with as low as 25% winning trades, that is compensated by outsized winning trades.
While this type of strategies tend to work very well, they can be very hard to trade from a psychological perspective. Placing order after order and either getting stopped out or brought out of the trade at no profit, again and again, is no easy task. With trend following systems there is a risk that the trader will not have the mental strength to stay with the system to gain those very few trades that really make it all worthwhile.
The small amount of big winner also means that you cannot afford to miss a trade. You never know if the next one is going to be the big winner that makes trading the strategy worth it!
Swing Trading Strategies Examples
Now that we have covered the basics of these two main categories of swing trading strategies, let’s have a look at a few trading strategies that make use of these logics.
Before we begin, just a word of caution! The strategies that we are going to discuss in this section are not tradable right away, and serve more to demonstrate the main concepts of the article than anything else!
Still, they are great examples of how you should go about constructing a trading system, and that’s why we think the still provide valuable insights! And if nothing else, they are great sources of ideas for your own strategies.
Let’s begin, but first a few words on short selling in equities!
Short Selling in Equities.
As a beginner in the stock market, you should never begin trading by going short.
The reason is that the stock market and equities, as a whole, always go up in the long term. If you decide to go short on this long term trend, you are making things very hard for you. Instead of having the upward drive working in your favor as a trader who goes long has, it works against you.
Finding edges and strategies that work well for shorting equities is MUCH harder than finding strategies that go long. This is the main reason why traders should only focus on going long at the beginning of their trading career.
Mean Reversion Strategy Examples
So, since the goal of mean reversion is to spot when the price has gone too far, and capitalize on the reversion of the trend, we first must try to define oversold and overbought conditions. When it comes to defining very broad ideas like “the market is oversold (gone too low) there are endless of possible ways to define the same thing. And while two definitions aim to target the same edge, the performance difference could be massive.
That is why we are going to cover a couple of different strategies that define overbought and oversold conditions in different ways. To make things easier to follow, these are the two market conditions that we are going to define in varying ways:
Oversold- When the price has fallen too much and should rise soon (the entry signal)
Exit- Where we exit the trade, meaning that we believe the reversion is complete.
Since short selling is seldom a good idea in equities, we are leaving the overbought option, and focusing solely on the exit for the long trade.
So now that we have this set and ready, let’s begin!
The RSI indicator is a momentum oscillator that measures the rate of change of recent price action to come up with overbought and oversold conditions. The default length of the indicator is 14 , and the traditional interpretation is that readings above 70 indicate overbought conditions, while readings under 30 indicate oversold conditions.
The RSI is traditionally considered a mean reversion indicator, but in our own testing, we have repeatedly found that it works at least as well for momentum trading.
Still, that does not mean that it does not work for mean reversion. We use RSI in quite a lot of our strategies, and it really is an effective way of capturing the swings of the market.
What we also have found is that the 14 day RSI seldom works well, and that the real edge lies somewhere between 2-10 , so that will be the settings we use for this test.
Let’s have a look at our conditions for this strategy:
Oversold: RSI2 crosses under 10
Exit: RSI2 Crosses over 50
So, in other words, we want to enter a trade once the RSI crosses under 10, and exit once crosses over 50. That way we go long when the market has fallen too much, and exit once it has reverted. Here is a chart that shows two trades using these rules:
While these rules on their own could be enough, there are a lot of things you could add in order to enhance the strategy. Be creative, experiment, and discover what works through your own testing!
Here are some examples of modifications you could make to the logic, while still not straying away from the RSI indicator:
- RSI should be under 10 for at least two bars in a row, effectively delaying the signal and requiring the security to go deeper
- Require that RSI was over 90 withing three bars prior to the entry signal. Thus, we want there to have been a fast decline from an overbought level before we got our signal.
- Add a longer-term RSI, like RSI 5, and require it to be either above or below 50
Later in the article under ” improving Swing trading Strategies” we will touch on more ways that you can enhance a swing trading strategy!
Bollinger Bands was invented by John Bollinger, and is a trading indicator that takes into account the volatility and direction of the market. It consists of a moving average, from which a standard deviation of the recent price movements is added and subtracted, creating one upper and one lower band.
According to John Bollinger, over 90% of price movements are contained within the upper and lower band. As such, price appearing outside the bands could be seen as an extreme movement, that soon should be followed by a reversion to the mean.
Bollinger bands are very useful in trading, and can be used in a variety of ways. In this strategy our conditions will be:
Oversold: Closing under the lower Bollinger Band
Exit: Closing above the moving average in the middle
As you can see in the image, once the security closes below the lower Bollinger band, it has performed a serious down move. In other words, the security is oversold.
Then, the middle line, which is the moving average, serves as our exit level.
If you look at the image above, you will notice how the outer bands inflate and deflate with the change in volatility. This feature is very helpful, since a market that experiences high volatility most likely will have to fall a greater distance before it reverts.
Here are some examples of additional things you could add to enhance the strategy, while still limiting yourself to the Bolling Bands:
- Require the 2 previous closes tp bo under the Bollinger Band. That way, you may increase the tension and make the price snap back up with greater force.
- Demand a certain Bollinger bandwidth(the width between the lower and upper band). This becomes a volatility condition, where you trade only during low or high volatility.
- Instead of going long when the security closes under the lower Bollinger Band, wait until it crosses the lower band from below. That way you basically wait for a confirmation that the price indeed has turned around.
- Require the moving average to be rising, while the lower band is falling. What this means, is that the increase in volatility is enough to offset the upward trend of the moving average.
Counting Down Days
Another example of a mean reversion logic is to count the number of days that the market goes down. The idea is that the market, after having performed x number of down days, becomes oversold, and will revert soon. Here are the conditions we use in this swing trading strategy:
Oversold: Three down days
Exit: First up day
So, we enter a trade when the market has performed three down days, and exit as soon as we see one up-day. Here are a few examples:
The type of exit that we use for this swing trading strategy is one that tends to produce a lot of small winners, but fewer big losers. All in all, this is in line with the general tendency of mean reversion strategies, but exits that take profit very soon tend to amplify this tendency.
Here are some conditions that you could add to the strategy to improve it:
- In the logic above, we only require the down days to close lower than they opened. If you want you could demand that every bar’s close is lower than the previous close.
- Require each bar in the pattern to have a greater range than the preceding one. This implies that the downward movement is increasing in strength and momentum, which could be a signal that price will shoot up considerably soon.
Distance to Moving Average
This example of a swing trading strategy makes use of a moving average in quite an unconventional way. Instead of looking for crossovers or breakouts over the moving average, we will measure the distance of the price to the moving average. Here are the conditions for the strategy:
Oversold: When the security is trading more than x-percent lower than the moving average. You calculate this by dividing the price of the security by the moving average
Exit condition: When the security crosses over the moving average
As you can see, in this strategy we have two parameters that we will have to define. The first one is the length of the moving average, and the second one is the percentage threshold for the distance of the moving average to the price.
You will have to experience with these settings to find what works best for the market you are working with. To remind you one more time, what we are presenting to you are not final strategies, but more examples of a few ideas that you may refine further!
Here is an example of the logic of the strategy applied to a chart:
Here are a few things you could test to improve the strategy:
- Experiment with different types of moving averages. For example, in our experience, exponential moving averages tend to work better in many strategies!
- Require the moving average to be rising or falling.
Momentum Trading Strategies
Momentum trading strategies, as we have learned earlier, are the opposite of mean reversion strategies. Instead of catching a falling knife they aim to profit from market strength by trading in its direction.
We also made a distinction between breakout strategies and trend following strategies. However, we will not make this distinction when listing a couple of strategies here, since the two often go hand in hand. For example, a trend following system often enters on a breakout of some sort.
Let’s have a look at a few examples of what a momentum swing trading strategy could look like!
Price Channel Breakout – The Turtle Method
The price channel breakout strategy is probably one of the most famous trading strategies in history. Used by the famous turtle traders, this is a strategy that has attracted the attention of many! This strategy is also a good example of that you do not need complicated and complex logics and codes to succeed in the markets.
These are the conditions that this strategy uses:
Entry: A close above the 40 day high
Exit: A close below the 20 day close
This really is as simple as a trend following system gets, and still, it worked so well! However, its performance has degraded over time, and you probably would not want to apply this strategy as is.
However, with some minor modifications, we have managed to make this strategy work on a few markets, so it is definitively worth having a look at!
Here is an example of the strategy. We use Donchian Channels to keep track of the past lows and highs of the market:
As you see, once the market hits the upper band, a buy signal is issued. The fact that the market has had enough momentum to break the 40 day high is the sign we need to expect the market to rise even further.
Then, we wait for the market to hit the lower band, and once it does, we exit the trade.
That is really all there is to it!
Of course, the parameters are not set in stone, and could be changed to better fit with the market you are playing with!
Here are some ways you could try to improve on the system:
- Make use of the high, low and open, in addition to just using the close price.
- Include a volume condition to ensure that the move is backed up by enough market participants.
Buy Pullbacks in Strong Trends
Even the strongest of trends have moments when the price retraces a bit, and this a tendency that you could take advantage of! Let’s have a look at an example of a swing trading strategy that tries to profit from this behavior! Here are the conditions:
Entry: This time we have three conditions
- The medium-term moving average to be rising
- ADX with the length set to 10 shows a reading of more than 20
- The RSI2 indicator is less than 10.
Exit: Profittarget and Stoploss
This is a strategy where we try to profit from a trend by entering when the market is in a temporary pullback. By requiring that the medium term moving average is rising and a high ADX reading, we know that there is an underlying strength in the market that is likely to push it further up.
The exit is a plain stop loss coupled with a profit target. Depending on the market and the contract size, you will have to adjust these so that they fit with the market.
In the image, you can see how all the conditions are checked. Once the trade is entered you just have to wait and see whether the stop loss or profit target is hit first!
And now to some ways you can try to improve the strategy:
- Look for potential support levels where the price might revert, and use them as additional information.
- Instead of entering when the RSI goes below 10, wait for it to start going up again. This becomes a sort of confirmation.
Improving Swing Trading Strategies
When it comes to building strategies in general, you want to start with your raw idea, and then improve on it by adding filters and additional condition. In this section, I thought that we would mention some of the things we use ourselves when we test our strategies.
Of course, there is no limit to the types of filters you could use, and we certainly use more things than we could ever cover in this guide.
Still, the filters mentioned below are powerful and will hopefully serve well as inspiration!
While the price graph gives a visual impression of what the market is doing, the volume gives you more clues about the conviction with which the market moved. Using volume when making decisions is often like adding a second dimension to your trading. Sometimes it could dramatically improve the performance, and other times you will find that it has nearly no impact at all.
The most basic way of using volume is to simply look for peaks and bottoms. For example, if there is a breakout, you want to know that you have the conviction of the market as whole to hold your back, in case you go long. A spike in volume during these events could be the sign you are looking for.
Another common way of looking at volume is to compare the volume of one day to that of the previous day. Doing so you are not looking for spikes or lows, but may just require the volume to be higher or lower than the day before.
This last condition is something we use a lot in our own trading. Often we also apply a moving average to the volume, and use that as a reference instead of the volume of the previous bar!
Moving averages are great as filters, and we use them a lot in our own trading strategies. Since they even out erratic price movements and makes it easier to gauge the trend, they are invaluable tools!
There are a couple of common ways that people use moving averages:
- Require the close to be above/under the moving average – This approach is commonly used with the 200-day MA, where a close above the MA is considered a sign of a bullish market, and vice versa.
- Require a shorter average to be above/under a longer period average- This approach is quite common to the first one, but since it involves a second short term average, the results often are quite different.
- The slope of the moving average- Here we look at the slope of the moving average and only take a trade if the moving average is sloping in the direction we want it to.
One thing that you should try is to use other moving averages than the simple moving average (SMA), which many use by default. In our experience, the Exponential Moving Average Works better in most cases!
In our article on moving averages, we take a closer look at different types of MA’s and how to use them!
Having a second, higher timeframe to get the bigger picture of what is happening in the market can be very valuable! For example, when trading the 60-minute chart, you might add a daily chart to understand better where the prevailing market trend is headed!
Then you just test conditions on the second time frame as you would on the primary timeframe.
How to Know What Rules To Implement
In order to know what rules you should include in your swing trading strategy, you will have to backtest your strategy.
Backtesting means that you test the strategy on historical data to see how you would have fared historically if you had traded by your set rules.
In our article on backtesting, you can read more about why you should backtest a trading strategy. We really recommend that you read it if the concept is unfamiliar to you!
The Best Swing Trading Strategies
Now its finally time to reveal the best strategies that we have come across on the web. To be honest, most that we found is garbage, but here we have been kind enough to present you with the really good ones!
According to us, some of the best swing trading strategies online are:
1.Connors RSI2 Strategy
Developed by Larry Connors, this is a strategy that actually is quite similar to the first strategy in this article. From our own tests, we know that this strategy has worked for a long time and takes advantage of a real edge in the market.
Here are the rules for the strategy:
Go long if RSI2 crosses under 10, and the close is above the 200-day moving average.
Close the position when the market closes above the 5-day moving average.
This is a classic form of mean-reverting trading strategy, that despite its simplicity and popularity works remarkably well.
Still, we would not trade this system ourselves, but would try to improve on the logic further.
However, with proper risk management, you should at least end on the winning side!
Here is the performance test on the SPY ETF that tracks the S&p-500. The test is made on 20 years of data, stretching from 1999-2019. This will be the settings we use for all the coming backtests in the article.
2. Double Seven
This is another swing trading strategy that uses mean reversion.
The strategy rules are as follows:
Enter when the market is above its 200-day moving average and performs a new 7 day low.
Exit when the market makes a 7 day high.
Here is the backtest, once again carried out on the SPY ETF:
3. Buy the Fear With VIX
Another mean reversion strategy that uses the VIX volatility index as a secondary data stream. As with the first RSI2 strategy this one was invented by Larry Connors, but this time in collaboration with Ceaser Alvarez.
The strategy enters when the VIX has been above its 10-day moving average for 3 days, which signals that there is a lot of fear in the market.
The strategy rules are as follows:
- The market closes above its 200-day moving average
- The last three closes of the VIX have been at least 5% over the 10-day moving average.
Exit when the RSI closes above 90.
Here is the backtest for this particular system:
4. Buy Pullbacks in the Market
This is another simple swing trading strategy that uses a 10-day moving average to catch pullbacks in the trend.
Here are the rules for the strategy:
Buy if the market is above its 200-day moving average, and trades below the 10-day moving average.
Exit the market when the close crosses over its 10-day moving average.
Here is the backtest:
If you are interested in getting more edges, we have our unique, ever-growing collection of market edges and strategies. Have a look!
In addition to explaining mean reversion and trend following, we have also given you four tradable trading systems that actually have generated money, and are likely to do so going forward!
Just keep in mind that nobody can guarantee future profits, and that all strategies stop working eventually! Therefore it is important to position size accordingly and diversify your positions.
The best way of making money in the markets is not through discretionary trading, but through automated, algorithmic trading! If you are interested in learning more about this we have a MASSIVE 10000 words article that brings up everything you need to know about algorithmic trading!