An Year of Swing Trading in Review
One year ago I decided to pick up swing trading instead of long term investing based on stock fundamentals because time is very limited to me and I don’t have the time left to sit and wait for the big gains to come around. I needed a system for generating gains consistently with little exposure to risk in bad market conditions. Little did I know that completing this system would take almost a year!
I am writing this in hopes that the reader who is just starting to learn swing trading or even those who are halfway into their journey can read this and relate to the mistake I have made and figure out the mistakes they have yet to make so that they can improve their process at a much faster rate than I did. I will go over all steps of progress that I have made along with the mistakes made and lessons learned.
Learning the chart patterns
This was the very first introduction that I had to swing trading. When you research about trading, you will inevitably learn about chart patterns like the VCP, or bullish/ bearish flags/ pennants/ triangles, darvas boxes, etc. What you need to understand is that all these patterns are just a way of interpreting the supply and demand mechanics of the market. ALL of these patterns work (unless you are drawing a thousand funky lines on the chart and trying to see things that don’t exist).
As a beginner, don’t freak out and over-study every single pattern, start trading using just a couple of patterns, understand the mechanics behind them and you will soon just trade most other patterns without even realizing it. It’s never the patterns you are trading, it's the characteristics they share (volume contraction, price range tightness, relative strength, & breakouts with high volumes etc.).
Making poor entries (Incorrect setups, Late entries)
After learning the patterns, I made a few successful trades but soon afterwards I ran into the first problem. I found myself drifting away from the setups I learned and made a few trades that actually did not have the correct setup - I was trying to make the reality fit to my imagination. After every loss I would go back to see what I did wrong and found this to be the reason. Sometimes the volume pattern was incorrect. Sometimes the base was not tight enough.
Another mistake I was making was that I was copying the trades of my mentors or peers and trying to enter too late due to FOMO (Fear Of Missing Out), thinking to myself that 1-2% inefficient entry wouldn’t matter. But I was wrong- late entries matter a lot in the long run by skewing your risk-reward ratio, so you should never make late entries unless the market itself fills your order at a late price. The lesson here for the reader is that try to make every trade perfectly- make a mental checklist of the characteristics of your setups and don’t enter them if it's not perfect. Tightness before the breakout, high volume on the breakout, low volume on the down days prior to the breakout, overall volume drop, everything has to be perfect. Don’t settle for less. Review your trades often- try to be so perfect that the last 9/10 entries in your journal don’t have any errors from your side.
Stop loss level mistakes
While reviewing my losers, I also found that sometimes my stop losses were incorrect often, they were too narrow, or too wide, or at a static level that had nothing to do with the trade- You might find that stop losses don’t always matter- sometimes your winners just run, but over a long period of time, the trades that you get knocked out of before running to the target will add up and accumulate. Your stop loss should be at a level where it gets triggered if you are wrong, or it gets triggered if you are very unlucky. Your stops should not be getting triggered in a normal price action noise.
To simplify, if you are entering a high volume breakout and you catch it later in the day in the upper half of the candle, you can set a stop loss slightly below the day’s low, as a reversal from such a strong day often means that the trade does not go your way. If you catch the breakout early, then you can afford a deeper stop loss, but you need to interpret the price action always and sometimes exit at breakeven if you see warning signs. The stop loss is unfortunately the one thing where discretion is more helpful than always being objective. Review all your trades, check where you placed the stop loss and figure out if that level is where you could conclude that the trade wasn’t working. Try not to have stop losses more than 4-5% for a good risk-reward ratio.
Not improving stop loss (Protect your breakeven)
Sometimes the market just sucks and there is very high volatility, you don’t have the luxury of sitting back and letting your stop loss do the work. If the index is in a range bound market (touching the same high and lows over a few months) then all your 4-5% stop losses in fresh trades will be hit every time the market approaches its resistance and turns, and you will give back a chunk of your profit if you are heavily invested.
If the trade starts going your way (let's say you’re up 5%) then start improving your stop loss. Maybe it doesn’t need to be at 5% below your entry anymore, move it as high as possible where you feel that random noise in price action or a pullback doesn’t knock you out. Remember the section before- the stop should be at a place where it gets hit when the trade is going wrong. If your stop is moved to breakeven you have 0 risk left in the trade- use this to your advantage as often as possible. Mark Minnervini describes this very accurately- “always improve your worst case scenario”.
The Pyramiding Madness
Soon after correcting my stop loss mistakes, another correction had come and gone, and we were in another small rally. I made some good trades here, however I noticed that I was making too little money for my account size- The person I was learning from told me that I needed to pyramid (add to my position progressively as the trade went in my favor). And this is where I made new mistakes. When I added to positions, I added too early and my trades just became heavier causing me more risk, or I added too much when I was in profit, this caused my average price to go way up and a minor pullback caused my profitable trade to become breakeven.
Slowly pyramiding also doesn’t work well in small range bound market where you get only 10-12 good trading sessions in a rally before it turns back down, so I advice the reader to start using pyramiding only when the index has broken through and is at all time high levels & advancing unidirectionally. Decide your max allocation beforehand (let's say based on your stop loss and risk you can only invest 10%- then decide your initial size and pyramid addition sizes before you enter the trade and don’t make discretionary decisions while in the trade).
Personally I still have not completely learned pyramiding- I prefer to allocate a decently sized position without pyramiding (The market is very range bound at the time of writing this)
Position Sizing errors- small winner and big losers
Due to lack of confidence, I used to make very small entries in stocks while learning the process. After watching them move up quickly, I would make larger entries and watch them draw down or hit my stop loss because by the time I scaled up, the rally was almost over. You have to understand that there is no way to be completely risk free- you cannot win without betting anything, always make meaningful entries or don’t enter at all. Your confidence should come from trusting your system, not your short term outcomes.
GTT Orders as an entry tool
Once my entry and exit strategy was almost concrete and I had enough confidence, I started making better entries, however I would always get out performed by full time traders- Their entries were always more efficient than mine, this is where I learned how to use a GTT order to place trades better. If you think that you should enter a stock above a specific level, you can put a GTT buy order at slightly above that level. When that buy order gets filled, keep a very close eye on the intraday movement to see if the entry was right- are the volumes correct? Is the breakout failing? After entry is triggered I wait till the end of day- if the price for the day is about to close under my breakeven & volume was weak, I exit with a marginal loss. Personally I only put GTT in trades where the chart is very perfect and which I can’t afford to miss. Out of 10 stocks on my watchlist, I set a GTT on maybe 2 or 3 stocks.
Trying too many things
In the middle of the year I got into and tried a lot of different lanes of trading- intraday on different timeframes, different strategies promoted by youtubers, and eventually decided to stick to swing trading. If you as a beginner start experimenting with something else while you are learning swing trading, make sure you do it in your extra time, do not let your side adventures take your focus away from what you are learning.
Eventually you will get back to swing trading and drop these random ventures, or just get lost on some unclear path with nothing to show for the time spent. Once you pick up swing trading for learning, stick to this and this only. The only other thing you probably can do along with swing trading is buy some stocks for your long term portfolio, which is healthy for your financial growth & doesn’t take as much time.
Market direction system
Finally after all my small losses & wins, mistakes and lessons I had learned a system of trading. But I still felt as if something was missing- Every book and resource kept telling me to “trust the setups” or do progressive exposure to risk, but in bad markets this resulted in me taking multiple trades and all of them failing (I have gone 0 wins and 10 losses in a correction, losing 5% of my capital), and in good markets I would make the money back. Sure I was still profitable, but it did not feel right- I felt like there should be an objective signal to stop taking entries and a signal to start trading again, so that I could stay out of weak markets. I studied the charts and discussed with my mentor about this- and created my objective entry-exit signal. I look at 2 indices (small cap and nifty 500) and market breadth (how many stocks are still up trending and how many have entered their downtrend.
This system is a warning sign in an uptrend- when it tells me I stop taking new entries, tighten the stop losses and cut losing positions immediately. When there is a correction, it tells me to resume trading so I take my first two trades after a buy signal. Once I fleshed this part out, finally I felt like a complete trader. I dodged a correction perfectly, and caught the low of a rally and made good money.
I cannot stress this enough- an objective market direction signal is the most important thing you need to create as a trader as most of your entries will fail in a bad market no matter how perfectly you make them, and even a monkey can flip a coin and pick stocks in a good market and stay above breakeven.
Putting it all together
Maybe you are tired of reading too many words and waiting for me to actually say something concrete instead of abstract ideas and generic lessons found in books. So I will share my system, which if followed will guarantee a profitable outcome if you trade with it for a year, provided that you are disciplined and don’t violate your own rules. You can go through it and apply what you think is valuable or missing in your own system. Following is my trading guide, which I personally follow. I am a short term trader, you can tweak it as per your timeframe (For example, using 20 EMA as a guide instead of 9 EMA which I use)