About Swing Trading in Choppy Markets
Swing trading in highly volatile markets generates substantial amounts of stress in even the most even keeled of traders. Watching helplessly as your positions get crushed at the market open is never a pleasant experience. As a swing trader, volatile markets will tend to reduce the amount of time that you hold onto your positions. It also increases the importance of hedging along with using options and stop losses to manage your risk.
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Function
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Market volatility reduces the duration of price trends, making them more difficult to spot. Such markets do provide an upside, though--the more price volatility there is, the more opportunities there are to make successful trades. The reverse is true as well, of course--there are no opportunities without risk. Swing traders that may have become habituated to holding onto their position for five days or longer may find that to be impossible in high volatility environments.
Identification
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The premiere volatility indicator is the Chicago Board Options Exchange Volatility Index (ticker symbol VIX). It measures the volatility of S&P 500 options. This index demonstrates what the market expects in terms of volatility over the next 30 days. The VIX is quoted as a percentage rather than a number, representing the amount of volatility expected. Watch the VIX if you are concerned about volatility. It is an index based on the S&P 500, however, and only reflects broad volatility. It does not indicate volatility within individual stocks and sectors, which could perform very differently.
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Considerations
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Swing trading is not an ideal strategy for high volatility markets. In general, swing traders take advantage of broad market moves in which clear momentum has developed in a number of stocks. Volatility prevents that momentum from developing. Stock prices become more affected by rumors and the news, as high volatility environments indicate substantial uncertainty among traders. Many swing traders choose to sit out highly volatile environments, instead putting their money into more conservative investments.
Potential
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However, volatile environments also provide the most opportunities to trade profitably. Use stop losses aggressively and keep them updated on your open trades. Exercise greater caution when shorting stocks. Whipsaw-like price behavior, in which a falling stock temporarily rockets upward, is far more common in volatile markets. If you do not have the patience to monitor your positions on a minute-to-minute basis, it will be far riskier to swing trade a choppy market.
Prevention/Solution
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To prevent overly large losses in volatile bull or bear markets, consider investing in Exchange Traded Funds and Inverse Exchange Traded Funds (ETFs). ETFs have low fees and can hedge some of your portfolio against substantial volatility in individual securities. Inverse ETFs are funds of short contracts for entire indexes. Take care in choosing an ETF for this purpose, however, as many of them are leveraged investment vehicles--they use borrowed money that magnifies their gains and losses.
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Resources
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