Active trading strategies involve buying and selling financial instruments based on short-term moves in the market to make a profit. The criteria for active trading strategies are different than standard long-term investing strategies. Active traders seek to find high probability short-term movements in the market to turn a profit.
- Active trading strategies include day trading, swing trading, scalping, position trading, and news trading
- Traders who use active trading strategies look to find high probability short-term movements
- Each strategy has associated risks that you should be aware of
There are different types of active trading strategies which traders can use. Each strategy varies based on the type of instrument that is being traded, along with underlying market conditions. Let’s take a look at five different active trading strategies that exist along with their risks and benefits.
#1) Day Trading
Day trading is perhaps the most popular active trading strategy. It involves buying and selling stocks, options, futures, commodities, or currencies within the same day without holding any overnight positions. Day traders rely heavily on technical analysis and laser fast execution to make informed trading decisions. It is often done by professional traders and larger financial institutions. With recent advances in technology and zero-fee brokerages, it has become easier for retail traders to participate.
It’s worth noting that day trading can involve significant risk if you don’t have proper risk management practices in place along with an appetite for volatility. As such, day trading carries a steep learning curve but can provide a significant advantage over other active trading strategies.
Common Risk Associated with Day Trading:
- Trading fees can quickly rack up and eat up your profits
- Very research intensive and involves a larger learning curve
- A lot of emotional ups and downs
#2) Swing Trading
Swing trading is an active trading strategy that aims to capture profits by analyzing fundamental and technical factors of a stock with the intent of holding a position for several days, weeks, or even months. Traders will analyze a stock and look for opportunities in which they can capture price swings which are supported by their intra-week or intra-month research.
It’s worth mentioning that for swing trading to be profitable it has to be done on the right type of security under the right set of market conditions. Swing trading will work best on stocks that react well under a certain set of conditions.
Common Risks Associated with Swing Trading:
- There is exposure to holding overnight positions and daily and weekly price gaps
- Trades require a longer period of time to work out
- Timing trades can be very difficult
Recommended Reading: Day Trading vs Swing Trading – What’s the Difference and Which is Better
Scalping is a trading strategy that aims to profit from small and frequent price changes in financial instruments. Traders who scalp are referred to as “scalpers”. Scalpers can place anywhere from 10 to a few hundred trades in a single trading session . Their contention is that you can capture smaller price moves much easier than larger ones. Scalping can work out if you have a strict way of managing your losses, as well as your transactions costs.
If you don’t your losses can quickly stack up and your fees can eat up whatever profits you have made. As such, you should be very aware of your trading costs if you plan to scalp. You must be very aware of the bid-ask spread, different order types, and periods throughout the day in which volatility is higher.
Common Risks Associated with Scalping:
- The high-frequency trading nature of scalping can lead to higher trading fees
- You can experience higher losses if you don’t know how to manage your risk
- Traders can experience higher levels of execution slippage due to higher trading frequency
#4) Position Trading
It is often argued that position trading isn’t an active trading strategy due to its long time frame for trades. Most people consider position trading a buy-and-hold strategy which is more common for investing rather than active trading. Position trading focuses on using longer-term charts (daily – monthly) in combination with other market conditions
Position traders tend to focus on finding trends and determining the best entry and exit points of security. The goal of position traders is to find a price wave or trend they can ride out from the bottom and top end of market movements.
They tend to look at the general direction of the market as a gauge to help them determine their entries and exits. Position traders will usually jump in a trade when the trend has already started and exit once the trend breaks below a certain level.
Common Risks Associated with Position Trading:
- Position trading can take a lot of time for the trade to move in your favor
- Losses can quickly stack up if you don’t monitor your trades carefully
- You are at the mercy of the market
#5) News Trading
As the name implies, news trading focuses on trading when important news events are made public. News traders focus on finding unexpected news to make bets. Some of the common news releases include:
- Earnings releases
- Interest rate announcements
- FDA approval of drugs
- Economic policy
- Natural disaster
News traders anticipate results before a certain news release is made public and will try to use the market sentiment along with their research to make an informed trading decision. It carries high levels of risk and is a trading strategy that should be used by experienced traders who know how to handle extreme levels of volatility
Common Risks Associated with News Trading:
- Extreme and unexpected price volatility can cause massive PnL swings
- News trading carries extreme uncertainty
- Bid/Ask spreads can widen out significantly due to volatility