Stocks & Commodities V.
22:2 (58,60-63): Swing Trading With Swing Charts by Teresa Lo
CHART PATTERNS
Swing Lo
Swing Trading
With Swing Charts
Heres how you can use swing charts as
an indispensable tool for all your trading.
(AMZN) Amazon.Com Inc LAST-Daily 10/31/2003 C=54.430
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by Teresa Lo
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late, swing trading has
caught the attention of
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many market partici60
pants. This migration of
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traders from day
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toswing trading has
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most likely been caused by the severe
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contraction of price movement in most
stocks and stock indexes over the past
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few years. For example, Amazon (Fig10
January 29, 1999: Average True Range $10.30
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ure 1) is a typical high-profile Internet
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stock. On January 29, 1999, Amazons
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20-day average true range (ATR) was
October 31, 2003:
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Average True Range $1.93
$10.30. As of October 31, 2003, the
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value was $1.93. Roughly, this means it
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April 1999
Oct 1999
Apr 2000
Oct 2000
Apr 2001
Oct 2001
Apr 2002
Oct 2002
Apr 2003
now takes more than a week for Amazon to cover the amount of movement
that it used to cover in a single day back FIGURE 1: THE REASON SWING TRADING IS GAINING POPULARITY. It takes more than a week for this stock
during the market frenzy, rendering to cover the amount of movement it used to cover in a single day.
intraday trading quite a bit less profitable than it used to be.
While there seems to be no lack of information offered on bars made lower lows, a downswing would be triggered,
the subject of swing trading, the meaning of the term swing while an upswing would be triggered if two consecutive bars
is often unclear. Let me provide some insight into how to use made higher highs. Dunnigan imposed more conditions, but
swing charts as an indispensable tool not only for swing what they all have in common is that swing reversals were
trades but also for any type of trading.
deemed to have occurred by the appearance of specific price
bar combinations; therefore, the same formula could be used
BAR-BASED SWING REVERSAL
across all time frames and markets. The point is driven home
Prior to the widespread use of computers, two traders laid the by the title of Dunnigans last book, One-Way Formula For
groundwork for defining swing based on the actual price Trading In Stocks And Commodities, written shortly before
action observed in the markets. One name that will forever be his death in 1957.
associated with swing charts is W.D. Gann. In the same era,
technician William Dunnigan conducted research into the PERCENTAGE-BASED SWING REVERSAL
nature of trends and reversals, but did not construct swing Today, traders tend to use the zigzag indicator or point &
charts per se. In recent years, the late Robert Krausz (author, figure charts to create charts with swings. The Japanese
trader, and STOCKS & COMMODITIES contributor) imple- equivalent to zigzag is the line break chart, while renko and
mented what is thought to be an alteration that Gann made to kagi charts are the candlestick equivalents to point & figure
the method.
charts. What these have in common is that the user is prompted
What these traders did was make specific rules about what to select an amount or percentage that price must reverse in
constitutes an important price reversal. In doing so, they also order for the chart to plot a swing reversal the user is the one
defined a swing. For Gann and Krausz, if two consecutive who defines how far price must go in the opposite direction in
Copyright (c) Technical Analysis Inc.
TRADESTATION; eSIGNAL (DATA)
Of
Stocks & Commodities V. 22:2 (58,60-63): Swing Trading With Swing Charts by Teresa Lo
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(SMH) Semiconductor HOLDRS LAST-Daily
10/31/2003 C=41.650 tvSwing tvSwing
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Jun 2003
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FIGURE 2: UPSWINGS AND DOWNSWINGS. The upswings and downswings are
connected together. This helps eliminate some noise from the price bars, and helps
to visually identify chart patterns and support/resistance points.
order for the move to be deemed significant. Is a 2% price
reversal significant, or should it be 5% or 10%? Can the figure
be used in all markets and time frames? Suddenly, problems
associated with variable parameters the need for backtesting
and optimization seen in most mathematically computed
indicators become major issues.
THE CHALLENGE
In 1998, one of my coworkers challenged me to define what I
knew about price action in terms that a computer could understand. We were preparing to launch a website (Trendvue.com)
at the time, and eventually, we managed to define one condition after the next, one trade setup after another. What was once
a totally discretionary style evolved into a highly methodical,
even mechanical approach with the addition of swing charts to
our toolbox.
Because the way market participants react to price action
and news has not changed over time, we continue to trade the
same conditions and setups, namely retracements in a trending
market (flags, pennants, classic flags, ABC corrections, wedges),
tests of tops or bottoms in a trending market, breakouts or
fakeouts of large patterns (triangles and head & shoulders), and
spikes (after extreme directional moves).
EYES ON THE ROAD, NOT THE DASHBOARD
Over the years, we have continued to use a handful of indicators such as average true range (ATR), average directional
index (ADX), and moving averages (MA). We regard these as
functional equivalents of dashboard instruments in a car, such
as the speedometer and tachometer. Price bars and swings form
chart patterns that are akin to moving objects and traffic lights seen
through the windshield as we drive. They remain the overriding
determinants of how we navigate the road of price action safely
year after year. In fact, with information collected over time, we
have even made conceptual roadmaps of chart patterns typically
associated with reactions to sets of events that tend to repeat
as themes in the market.
SWING THEORY
Both bar reversal and percentage reversal swing charts help
traders objectively define uptrends and downtrends based
on the relative position of adjacent swing highs and swing
lows. A series of lower swing highs and lower swing lows
constitutes a downtrend. A series of higher swing highs and
higher swing lows constitutes an uptrend. When successive
upswings and downswings overlap each other significantly, then you know that price action is congested.
The advantage of bar-based swing reversals is that the
logic naturally extends to cover the price bars within each
swing, finally defining a swing. In principle, successive
bars with higher lows and higher highs should all be part of
a single upswing, while successive bars with lower highs
and lower lows should all be part of a single downswing
(Figure 2). Gann, Krausz, and Dunnigan all made minor
modifications to accommodate some variation, but the
concept remains central to swing theory.
CLASSIC PATTERNS AS TRADE SETUPS
Our trade setups are based on classic patterns documented
long ago by the likes of Richard Schabacker, Robert
Edwards, and John Magee. Swings allow you to establish
a premise for a trade, and subsequent price action helps
make conditional statements to systematically eliminate
the range of possible outcomes along the decision tree,
providing insight into appropriate exit strategies. These
setups help to do a number of things. You may:
Identify pivots, major support and resistance
points where price reverses to form swing highs
and swing lows.
Identify the structure of a price move based on the
relationship between successive upswings and
downswings. If a number of higher swing lows
are followed by higher swing highs, you can infer
an uptrend. If there are a number of lower swing
highs and lower swing lows, you can infer a
downtrend.
Identify and differentially diagnose congestion
patterns in order to avoid choppy markets. If successive upswings and downswings overlap each
other by a significant amount, you know that there
is congestion, so you delineate chop zones and
mark out large potential breakout patterns.
Identify and differentially diagnose retracement
and test patterns based on the relative positions of
the swing pivots in order to enter and exit in a
timely fashion.
Copyright (c) Technical Analysis Inc.
Stocks & Commodities V. 22:2 (58,60-63): Swing Trading With Swing Charts by Teresa Lo
(SMH) Semiconductor HOLDRS LAST-Daily C=29.950
50SMA 26.442 20EMA 28.109 tvSwing
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Semiconductor HOLDRS LAST-Daily
C=30.500 50SMA 26.785
20EMA 28.807 tvSwing
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FIGURE 3: SWING CHARTS IN ACTION. The swing high of 5/12/03 is used as a support level
for the pullback. If prices hit this support level you might consider opening a long position.
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SWING CHARTS IN ACTION
In the following case study, you can see how to use information obtained from the classic swing chart to analyze price
action and how that information can be used to formulate
strategy and tactics to set up a trade.
SMH Daily Chart, 6/3/03 (Figure 3)
Observation: Pullback after a new high to the 5/12/03
swing high.
Premise: Potential one-swing bull flag retracement pattern, first bar after the 6/2/03 swing high.
Conditional statement: If this is still in an uptrend, then
a pullback into the 5/12/03 swing high should find buyers
in the $28.93 area and be confirmed as support.
Trade setup: Look for ways to enter on the buy side with
the 6/2/03 swing high at $30.45 as the initial upside target,
since you know thats where sellers showed up before.
SMH Daily Chart, 6/6/03 (Figure 4)
Result: Buyers came out as support was confirmed. The
upside target was hit, with continuation.
SMH Daily Chart, 10/20/03 (Figure 5)
Observation: Pullback after new high to a zone between
the 9/8/03 swing high of $38.85 and the 9/17/03 swing
high of $38.15.
Premise: Potential one-swing bull flag retracement pattern, third bar from 10/15/03 swing high.
Conditional statement: If this is a new leg up, then a
pullback into the zone between $38.15 and $38.85 should
find buyers and be confirmed as support.
Trade setup: Look to enter on the buy side.
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FIGURE 4: SWING HIGH AS RESISTANCE LEVEL. The
swing high of 6/2/03 is your initial upside target. This
target was hit and prices continued further.
SMH Daily Chart, 10/22/03 (Figure 6)
Observation: Moved up for one day on 10/22/03 but
came back down the next.
Premise: 10/22/03 becomes a potential lower swing
high, but with prices still above the support zone between
$38.15 and $38.85, there are several possibilities:
1 A pennant pattern (lower swing high, higher swing
low), a larger retracement pattern, will form above
the support zone and the moving averages.
2 The lower high might trigger selling by those who
assume that it is a reversal signal, and look for a move
back down to the support zone and to test the 10/20/
03 swing low of $38.08 to see if buyers are still there.
3 If the 10/20/03 swing low is taken out by a little bit but
price manages to hold above the most commonly used
moving averages, the 20-day EMA (in red) and the 50-day
MA (in gray), it sets up the two-swing classic bull flag
(lower swing high, lower swing low).
Conditional statement: While the one-swing bull flag
did not hit the upside target in one clean swing, the
Because the way market participants
react to price action and news has not
changed over time, we continue to
trade the same conditions and setups.
Copyright (c) Technical Analysis Inc.
Stocks & Commodities V. 22:2 (58,60-63): Swing Trading With Swing Charts by Teresa Lo
Semiconductor HOLDRS LAST-Daily C=39.250
50SMA 36.396 20EMA 37.706 tvSwing
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potential lower swing high is still part of two larger
retracement patterns. Keep this in mind before you
conclude that a reversal is in place.
Trade setup: Pennant or two-swing classic bull flag.
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SMH Daily Chart, 10/24/03 (Figure 7)
Observation: The downswing reaches the 10/20/03
swing low, which happens to be the low end of the
support zone and the 20-day EMA. You can now eliminate the possibility of a pennant formation, since there is
now a lower swing low in place. If you believe this is a
reversal, you will want to see the downswing accelerate
as the 10/20/03 swing low is broken.
Premise: The two-swing classic bull flag outcome is
still possible.
Conditional statement: If this is a classic bull flag, then
buyers should show up at the 10/20/03 swing low because this is where they showed up before. If this is a true
reversal from uptrend to downtrend, the buyers will not
show up and it should fall right through.
Trade setup: Classic bull flag.
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FIGURE 5: PULLBACK ZONES. This is evident from the bull flag retracement
pattern on 10/20/03. This pullback zone is a strong support level if it holds.
SMH LAST-Daily C=39.130 50SMA 36.725
20EMA 38.044 tvSwing
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20-day
EMA
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THE END RESULT
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SMH Daily Chart, 11/7/03 (Figure 8)
Conclusion: The 10/20/03 swing low, the support zone,
and the 20-day EMA holds on the pullback. The twoswing classic bull flag hits target 1 (10/21/03 swing high)
and target 2 (10/15/03 swing high) and goes on for some
upside bonus.
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FIGURE 6: DID THE SUPPORT ZONE HOLD? Prices did move above the support
zone, but retraced back just above the support level. This price movement has to
be monitored closely.
CONCLUSION
Swing charts are a simple yet highly effective visual tool that
allows traders to instantly gather volumes of information
from a chart. From the identification of support and resistance points, to spotting trends and congestion areas, to
identifying classic technical patterns, bar-based swings can
be used on any time frame for any instrument. Best of all, they
supplement a traders personal favorite indicators and contribute to successful trading.
SMH LAST-Daily C=38.550 50SMA 36.969
20EMA 38.130 tvSwing
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20-day EMA
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50-day MA
Teresa Lo is the founder and Chief Market Strategist of
TrendVue.com. The Classic Swing indicator shown in this
article is available free of charge as a plug-in for eSignal
Advanced Charting, TradeStation 2000i, and TradeStation 7.
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FIGURE 7: THE FOLLOWING DAY. Prices moved lower to the low end of the support
zone, and coincidentally the 20-day EMA, another support area. There is no
possibility of a pennant formation, since a lower swing low is evident.
Copyright (c) Technical Analysis Inc.
Stocks & Commodities V. 22:2 (58,60-63): Swing Trading With Swing Charts by Teresa Lo
SUGGESTED READING
Edwards, Robert D., and John Magee [2001]. Technical
Analysis Of Stock Trends, 8th ed., W.H.C. Bassetti, ed.
Saint Lucie Press.
Krausz, Robert [1997]. A W.D. Gann Treasure Discovered,
Geometric Traders Institute.
_____ [1999]. Multiple Time Frame Trading Using Swing
Channels, Technical Analysis of STOCKS & COMMODITIES, Volume 17: January.
Maccaro, James [2002]. The Early Chartists: Schabacker,
Edwards, Magee, Working-Money.com: August 6.
Schabaker, Richard W., and Donald R. Mack [1997]. Technical Analysis And Stock Market Profits: A Course In
Forecasting, Financial Times Prentice Hall, reprint.
www.TrendVue.com
www.WDGann.com
See Traders Glossary for definition
S&C
SMH LAST-Daily C=43.990 50SMA 38.360
20EMA 41.058 tvSwing
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20-day
EMA
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50-day MA
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FIGURE 8: THE MYSTERY IS SOLVED. The swing low, support zone, and 20-day
EMA all hold and prices rise above upside targets 1 and 2. They didnt stop there.
Copyright (c) Technical Analysis Inc.
