What is Momentum Trading?

Momentum trading is a type of trading strategy that seeks to capitalize on securities that are moving in a particular direction. This strategy utilizes the motto of "the trend is your friend." By investing in securities that are already performing well, the investor hopes to secure additional gains as they move. 

Momentum Trading

Momentum trading is a strategy that many investors use so that they can successful securities. With this strategy, you will buy securities that have been moving up and short sell securities that have been moving down quickly. The hope of the momentum trader is that the securities will continue moving in the same direction for a certain amount of time so that they can take in some quick profits. Then, they will look for indicators of the securities moving in the opposite direction. When they feel that the momentum has stopped, they will cash out the trade and look for another opportunity to invest in. This type of investor essentially jumps from one wave to another without trying to go through any of the dips. 

Substantial Gains

If done correctly, this type of investment strategy can post some substantial gains for the investor. When you successfully choose securities that are moving in one direction, they will often keep moving for a long time before they stall out. When this happens, you could bring in large profits without taking any losses. Over a period of a few days or weeks, you could make quite a bit of money.

Timing the Market

One of the potential problems with this strategy is that you have to be able to successfully time the market in order to make it work. If you think that a stock is about to move up and you purchase shares, it could potentially move right back down again. Many investors have discovered how difficult it is to try to time the market. This strategy is essentially all timing. Another problem with this strategy is that you will have to base your timing on regular information. Many times, institutional investors on Wall Street have access to information that you may not have. Because of this, they might get out right after you get into the trade. This could make the trend stop and you would be left in a losing position.

Transaction Costs

With this type of strategy, you will most likely be trading frequently. Because of this, you have to now take into consideration the impact of transaction costs on your trading. If you were previously engaged in buy and hold investing, you may not have paid much attention to the transaction costs of your actions. However, if you are getting into and out of trades quickly in order to capitalize on the trend, you will be trading much more frequently. This means that you need to consider working with a discount broker in order to lower your transaction costs and increase your profitability.

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