Swing Trading strategy (Trend following)

 In this blog, we will go step by step to break down and analyze the trading strategy TREND FOLLOWING. The first time we tried this strategy, we made some significant mistakes, and we want to guide you through them to prevent you from making the same errors.

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Let’s delve into the details. We bought NIFTY CALL option on November 6th and held it until November 15th. Though the trade was ultimately successful, one aspect puzzled us. As the market moved upwards, our option premium did not increase proportionally. Despite the market's gradual upward movement, our profits were not reflecting this. By the third day, we were down to -27.89% (This was caused by the Options Greeks, which we will explain more about later). However, we did not take any action because we stuck to the strategy that would make us profitable in the end.

 On the next day, we found ourselves down, but by day end, the market moved upward, reducing our losses. In the subsequent days, the market continued to move up, but there was no significant change in our portfolio, as the market showed almost sideways movement with slight adjustments.  (The reason behind this confusing behavior was the Options Greeks, which determine how an option's value changes based on different market conditions.)

Then, on November 15th, we noticed our account was up 42.9%, a profit. Instead of holding, we chose to close the trade, at 42.95% profit. However, if we hadn't closed the trade, we could have made around 250% of profit in a single trade. Fear of loss prompted our decision to close the trade.

Now, let's analyze what actually happened. We follow a strategy known as trend-following, where we buy high and sell even higher. Unlike other strategies that involve buying low and selling high, trend-following doesn't predict breakouts or reversal points; instead, we enter when the market is already moving in a particular direction.

As seen, if we (trend followers) are wrong, we exit fast; if we are right, we let our profits run until a trend reversal is observed.

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This strategy was effective, but we faced a challenge. Despite the market moving sideways, we were still incurring a loss even as the market closed higher. This phenomenon is known as theta. Theta represents the rate of decline in the value of an option over time. In our case, being in a long position in a call, theta played a significant role in decreasing our option premium. On the other hand, short sellers’ profit from theta if the market moves in their direction, or even if the market is in a sideways motion, they earn premium each day, provided the market does not exceed certain values; otherwise, short sellers start incurring losses.