Generally, stock market traders tend to have one of two personal trading styles, and the style dictates the holding period. In a perfect world, as a stock trader, you first determine whether your security is trending or range-trading sideways, and then you apply the appropriate indicator. In practice, you can’t always classify price moves as trending or not trending in a neat and tidy way. Besides, prices usually have an identifiable range, whether they’re trending or not. In addition, retracements always create doubt — you find yourself wondering, “Is it a momentary correction or a reversal?”
If you mix the indicators for the two types of trading style — trend-following and swing-trading — you may get confused. One may tell you to stay long when the other one says sell. One example of this is when a downtrending price becomes temporarily oversold and then bounces upward. You may engage in a little wishful thinking that you see a trend reversal, and you become a buyer of what you think is a new uptrend. To try to avoid making this mistake, you need to choose a core guiding principle, either trend-following or swing trading.
Being a market trend-follower
Traders who like to identify trends can use a couple of techniques:
-
Wait out retracements and sideways range-trading situations until they resolve back into a trend.
-
Use information from momentum indicators to modify their positions — for instance, by taking some profit when the security becomes overbought or oversold, even though the trend is just pausing. They expect it to continue.
This figure illustrates a trend, complete with minor retracements, and shows how a trend-following trader makes decisions.
If you choose trend-following, you choose to suffer through the downward bounce in an uptrend (or the upward bounce in a downtrend). And if you have correctly identified the trend, your patience pays off when the trend resumes.
Being a market swing trader
These folks operate, whether a trend is present or not. Swing trading is buying at relative lows and selling at relative highs, regardless of whether the price is trending:
-
Pro: Swing trading is more flexible than trend-following because you can apply the techniques under different market conditions.
-
Con: Swing trading requires more frequent trading, and the profit on each leg of the trade tends to be smaller than in a single trend-following trade.
A swing trader may know that a price is downtrending, for example, but he’s still willing to buy it for a short-term profit opportunity when a momentum indicator says it’s temporarily oversold and likely to enjoy a bounce upward. This figure shows how the swing trader tries to capture every move, including the retracements.
