Converting a Day Trade to a Swing Trade

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The following gets more into detail beyond what was covered in this interview Futures Radio Interview

How I Convert a Day Trade into a Swing Trade

While some swings may be pre-planned, there are many instances in which I choose to use my intraday precision to enter a swing trade even if it had not been pre-planned. You may once in a while see me post in the Discord, “feel free to swing some” and wonder how I might do so. I use ES as my primary day trade vehicle, whereas you might use MES or options. My personal preference is to keep my day trade vehicle open for the next day, while holding a lower leveraged vehicle overnight and potentially for days to come. This allows me to continue trading intraday rotations on both sides of the tape while maintaining exposure to a potential larger move. I’ve put together a few examples of how one might go about this across different trading vehicles, full disclosure, using Chat GPT to fill in some of the details about the various products and the mathematical examples.

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ES to MES

In this example, let's focus on trading the S&P 500 through the futures products: the E-mini S&P 500 futures (ES) and the Micro E-mini S&P 500 futures (MES). These products offer different leverage, which can be a key consideration when shifting from a day trade to a swing trade.

Breaking Down the Trade Transition

Let's say my usual day trade size is 2 ES contracts. Once I hit my first target, I usually close one contract to secure some profit and let the remaining contract ride for a potential bigger move. If I reach my second target but have reason to believe there could be further continuation into the next day, I may decide to close the second ES contract. At this point, instead of fully exiting the trade, I would open a new position with 5 MES contracts as I close the remaining 1 ES.

This transition from 1 ES contract to 5 MES contracts effectively reduces my position size to about one-fourth of my initial trade. The reason behind this approach lies in the relative differences in leverage and margin requirements between the ES and MES contracts.

Leverage and Margin Differences

1. E-mini S&P 500 (ES):

- Each ES contract controls an exposure of 50 times the S&P 500 index. For instance, if the index is at 4,000, one ES contract represents a notional value of $200,000 (4,000 × $50).

- The CME requires an initial margin (for overnight positions) of around $12,100 per contract (though this may vary slightly with market conditions). This provides a significant leverage effect.

2. Micro E-mini S&P 500 (MES):

- The MES contract is 1/10th the size of the ES contract, controlling an exposure of $5 per index point. So, at an index level of 4,000, one MES contract represents a notional value of $20,000.

- The margin requirement for an MES contract is approximately $1,210. The leverage is therefore proportional but on a much smaller scale, allowing for more flexible position sizing.

When I transition my trade to 5 MES contracts, I'm controlling a notional value of $100,000 (5 MES × $20,000 each), effectively reducing my exposure compared to holding 1 ES contract.

Fees and Considerations

One point to consider is the relative difference in fees between ES and MES. While the fees for trading the MES contracts are generally lower per contract than the ES, they can add up since you typically need multiple MES contracts to match the exposure of a single ES contract.

- Margin Efficiency: By switching to MES contracts, I can more easily manage my margin requirements overnight since the margin for 5 MES contracts ($6,050) is significantly lower than that for 1 ES contract ($12,100). This makes it easier to hold a swing trade position without tying up too much capital.

In summary, by converting my day trade into a swing trade using the MES contracts, I adjust my risk exposure more precisely while keeping my trading flexible and capital-efficient. This approach allows me to capture potential continuation into the next trading day while minimizing my overnight risk. It additionally keeps my primary trading vehicle available for the next day

Adding Flexibility with Leveraged ETFs as Runners

For traders who use the Micro E-mini S&P 500 futures (MES) as their primary trading vehicle, there is an alternative way to transition from a day trade to a swing trade: using leveraged ETFs. This approach can reduce leverage further while maintaining a position that benefits from market movements. Let’s explore how to implement this using the 3x leveraged ETFs available for the S&P 500.

Leveraged ETFs Overview

In this example, we’ll focus on two popular 3x leveraged ETFs that track the S&P 500:

- SPXL: The Direxion Daily S&P 500 Bull 3X Shares ETF. It aims to deliver 300% of the daily performance of the S&P 500 index.

- SPXS: The Direxion Daily S&P 500 Bear 3X Shares ETF. This inverse ETF seeks to provide 300% of the inverse of the S&P 500's daily performance, allowing traders to profit from market downturns.

Transitioning from MES to Leveraged ETFs

Suppose the S&P 500 index is trading at 4,000, and you have an active day trade using 8 MES contracts. If you reach your second or third profit target and want to scale down your position for a potential swing trade, one option is to reduce your MES contracts and open a position with a leveraged ETF instead.

Here’s a step-by-step breakdown of how this would work:

1. Current MES Position: You hold 8 MES contracts, which controls a total notional value of $160,000 (8 contracts × $20,000 each).

2. Scaling Down: Let’s say you have closed 6 of the 8 MES contracts during the course of the day, leaving 2 MES contracts ($40,000 exposure) as runners. You decide that there is potential for continuation overnight and possibly for days. However, instead of keeping those 2 MES, you decide to use leveraged ETFs to manage the swing position.

3. Converting to a Leveraged ETF Position:

- You decide to close the last of the 8 MES contracts and transition the runner into a position using **SPXL** (3x leveraged ETF).

- To approximate the exposure of the 2 MES contracts ($40,000 notional value) using SPXL, you would need to purchase a smaller amount of SPXL because of its 3x leverage.

- Assuming the index is at 4,000, you would need to invest roughly $13,333 in SPXL to obtain a similar exposure ($13,333 × 3 = $40,000).

Example: 1% Move in the Index

Let’s explore how a 1% move in the S&P 500 would impact both positions:

1. MES Position Impact:

- A 1% move in the S&P 500 (from 4,000 to 4,040) results in a 40-point gain.

- With 2 MES contracts, this gain translates to $400 (40 points × $5/point × 2 contracts), totaling $400.

2. SPXL Position Impact:

- The 3x leveraged SPXL would theoretically move 3% (3 × 1% move of the index) in response to the same 1% index increase.

- Assuming you invested $13,333 in SPXL, a 3% gain would yield approximately $400 ($13,333 × 0.03).

Both approaches yield a similar outcome in this scenario. However, using SPXL as the swing vehicle provides flexibility in managing overnight risk without maintaining a futures position.

Inverse ETF Example

Now, let’s say you expect the market to see continuation to the downside. Instead of holding short MES runners, you could use SPXS (the 3x inverse ETF). Here’s how you might do that:

1. Closing Your short MES Position: You close the last of your 8 MES contracts completely.

2. Buying SPXS: To achieve an equivalent exposure to shorting the market with 2 MES contracts ($40,000), you would need to invest approximately $13,333 in SPXS. Due to its 3x inverse nature, if the market drops 1%, SPXS would theoretically rise 3%.

3. Market Movement: A 1% drop in the index means a 3% gain in SPXS, resulting in a profit of $400 ($13,333 × 0.03).

Considerations for Using Leveraged ETFs

- Leverage Decay:Leveraged ETFs are designed to achieve their multiple on a **daily basis. Over time, especially in volatile markets, their performance can deviate from the expected multiples. This is known as leverage decay and is something to be aware of when using ETFs for swing trading beyond a single day.

- Fees and Costs: Leveraged ETFs generally have higher management fees compared to futures contracts. The daily rebalancing also creates some tracking error, which can impact the long-term returns if holding these ETFs for an extended swing trade.

Summary

Converting a day trade into a swing trade doesn't always have to involve holding futures contracts overnight. By transitioning to leveraged ETFs like SPXL or SPXS, you can fine-tune your exposure while potentially reducing risk and margin requirements. This approach allows you to continue participating in market movements, either to the upside or downside, using a flexible and liquid instrument.

Converting a Day Trade to a Swing Trade with Options

For those who trade options, particularly same-day expiry options (often called “0DTE” options), transitioning a day trade into an overnight swing trade requires a slightly different approach. Since 0DTE options expire at the end of the trading day, you naturally can’t hold these contracts overnight. However, there is a way to use a portion of your gains to maintain exposure using longer-dated options.

Example Scenario

Let’s say you entered a 0DTE trade on the S&P 500 and it yielded a 300% return at the point at which you intended to close it. While a nice gain already, you might want to capture potential continuation into the next day or even over the following week. Here’s how one might transition that trade into a runner with a different set of options:

1. Close the 0DTE Position: You sell your 0DTE contracts to lock in the profit. For simplicity, let’s say your initial cost basis for this trade was $1,000, and you made a 300% return, netting a profit of $3,000 (for a total of $4,000).

2. Allocate Profit for a Runner:**

- First, remove your initial cost basis ($1,000) to preserve capital.

- Then, pocket, for example 50% to 75% of the profit for immediate gains, depending on risk appetite and confidence in continuation. In this case, if you take 75% of the profit ($3,000 × 0.75 = $2,250), you set aside $2,250 as realized profit.

- This leaves you with $750 from the profit to allocate towards a new position as a "runner."

3. Buy a New Option for Continuation:

- With the remaining $750, you now have the option to purchase a contract with an expiration further out, such as the next trading day or a weekly expiry.

- For example, you could buy an **at-the-money call or put** for the next day if you believe in continued momentum in the same direction. Alternatively, you might opt for a slightly out-of-the-money option if you expect a larger move.

Why This Approach Works

This strategy allows you to participate in further potential market movements without risking the entirety of your day trade gains. By using the profits from the initial trade to purchase a longer-dated option, you effectively extend your exposure while limiting your risk to just a portion of the day’s earnings. This flexibility can be particularly valuable if you suspect the market might make a sizable move overnight or in the coming days.

Considerations

- Time Decay: Longer-dated options have a slower rate of time decay (theta) than 0DTE options, providing a bit more leeway in holding them as runners. However, time decay will still be a factor, especially if you’re holding weekly options.

- Volatility Impact: Since you are transitioning from a same-day option to a longer-dated one, consider the potential impact of changes in implied volatility. A decrease in volatility could reduce the value of your new option runner even if the underlying market moves in your favor.

- Capital Management: By using only a portion of your profits to purchase the new option, you manage risk and protect the majority of your gains, allowing for a more measured approach to swing trading.

This method provides options traders with a viable way to extend the life of their trade while minimizing overnight exposure. It allows for a "runner" to stay in the game, with the potential for additional gains if the market continues in the expected direction.