Stocks & Commodities V. 28:2 (14-23): The 350 Swing Trade by Barbara Star, PhD.

The 350 Swing Trade by Barbara Star, PhD.

This indicator can help you identify the beginning and end of a price swing.

When markets exhibit greater and greater volatility, traders move away from longer-term trading methods with their potentially devastating drawdowns and move toward more nimble strategies that catch shorter-term price moves. Among the many short-term trading methods, swing trading, with its emphasis on trades that last from a few days to a few weeks, offers a good middle ground that makes trading more manageable.

Traders may use a variety of methods to identify the beginnings and endings of a price swing. They include patterns formed by price bars or candlesticks, support/resistance zones, pullbacks in an existing trend, Fibonacci levels, or momentum indicators. The approach used in this article is based on the relative strength index (RSI), a momentum indicator developed by J. Welles Wilder.

THE 350 SWING INDICATOR

The RSI identifies potentially overbought and oversold levels at which price may reverse direction. However, its default lookback period of 14 does not work well to identify short-term price swings. It tends to remain in a type of no-man’s land between its 30 and 70 levels for long periods, catching fairly large drawdowns before reaching overbought or oversold levels.

Decreasing the lookback period increases the indicators’ sensitivity to smaller price moves — sometimes too much. That was the case when I changed the 14-period RSI to a three-period RSI (see sidebar “RSI 3”). The result was numerous false signals.