The S&P 500 (Standard & Poor’s 500) is a market capitalization-weighted index that represents the general level of strength of the U.S. economy and is used as a leading indicator for business cycles. It is also known as the SPX or just S&P. This article will touch on strategies and tips for how to trade the S&P 500.
Why trade the S&P 500?
Whether you are a short-term or long-term trader, trading the S&P 500 gives you a diversified exposure to the U.S. market.
Other reasons to trade the S&P 500 include:
- Clear technical chart patterns which give you distinct entry and exit signals.
- Tight spreads generally offer inexpensive costs to enter and exit a trade.
- The S&P is widely covered by analysts who conduct comprehensive technical and fundamental analysis.
- The SPX trades almost 24/5 allowing you more flexibility.
How to Trade S&P 500: The Importance of a Strategy
A strategy is of utmost importance when it comes to SPX trading. Professional traders have a set of guidelines and principles that they follow to be successful.
The importance of a trading strategy:
- An effective trading strategy helps to discount market noise, enabling traders to focus in on their entry and exit signals.
- A strategy provides traders with predetermined levels of entry, exit and trade size. Professional traders know what they are risking and what they could gain before entering a trade.
- Strategies tame your emotions. They allow you to be more structured with your trading with regards to leverage, risk management and realistic entry and exit points.
S&P 500 Trading Hours
The S&P trades almost 24/5. Professional traders like to trade the S&P 500 during its main market hours because it is more liquid, and they can get tighter spreads. The main market is between 9:30am and 4:00pm eastern time.
A possible next step to trading the S&P 500 index would be to formulate a strategy based on fundamental analysis, technical analysis, or a combination of both.
Using Fundamental and Technical Analysis to Trade S&P 500
Traders generally use either fundamentals like economic data (which you can find on an economic calendar) or technical indicators. Read our guide to combining technical and fundamental analysis for expert insight.
Fundamentals behind the S&P 500
General economic data can move the S&P, as can employment, CPI, interest rates, and GDP. This data can signal whether the Federal Reserve Bank must increase the interest rate to combat inflation due to an overheating economy. These higher interest rates lead to higher yields on government bonds which cause investors to move from equities to bonds for the higher return and for the decreased risk on their capital.
The move from equities to bonds could cause a decrease in the price of the S&P due to the increased selling pressure. It is important to consider these fundamentals when formulating your strategy because the underlying trend is based on the general well-being of the U.S. economy. The DailyFX economic calendar displays the economic events from the US economy.
SPX trading using technical indicators
An S&P 500 trading strategy could use a combination of price action, oscillators, support and resistance levels, trend channels, Ichimoku, moving averages and triangle price patterns to name a few. The graph below shows the S&P futures with support and resistance levels and a trend channel. These are just a few of the many indicators you can use in your strategy.
Traders increase the probability of their trades by looking for buy-signals that are in line with the current market trend. For example, if the S&P has been trending upwards traders will look to buy at support levels (the green line in the chart below) and likewise if the market has been trending downwards they will look to sell at resistance levels (red line).
Traders will also fine tune entries using common technical tools like the Relative Strength Index. The chart above shows an hourly S&P 500 chart with an RSI (Relative Strength Index) buy signal at the green circle. When the RSI dips below a level of 30 it signals that the market may be oversold. Traders can use this information as a possible buy signal if they determined the larger trend to be up. Traders can likewise use the RSI as a sell signal when the RSI breaches 70 in a larger downtrend.
Common technical indicators used for technical analysis include:
- Relative Strength Index (RSI)
- Moving average convergence divergence (MACD)
- Stochastic Oscillator(Stoch) - How to Trade with Stochastic Oscillator
- Head and shoulders
- Bull/Bear flags
It is important for traders to understand both technical indicators and the fundamentals when trading the SPX. When traders understand both, they can decide what to use in their strategy. If you haven’t got a trading strategy yet, or want to work on your current one see our series on how to build a strategy.
Different traders will have different holding periods. It is important to identify a trading style that fits your personality.
Scalping/day trading - Traders attempt to take advantage of very small price moves on very short time frames using price action. Day traders are attracted to the S&P due to the high liquidity, tight spreads and 24/5 trading hours.
Intra-day - Traders will look for short-term trades that do not last longer than a couple of days using technical analysis, mainly, but also possibly fundamental analysis or trading news events. Intra-day traders are drawn to the SP500 due to its clear technical patterns or daily momentum moves that the market is known to create.
Swing trading - Traders will look for medium-term moves; days to weeks and possibly even months. Swing traders trade based on technical analysis and fundamental analysis. Swing traders prefer a fewer number of trades but generally choose higher risk-reward ratio trades.
Each quarter, read DailyFX’s forecast for equities so you can see fundamental and technical analysis in action.
S&P 500 Trading: Top Tips
- Decide on stop-loss and take-profit levels before entering a trade. Use a positive risk to reward ratio on your trades.
- Manage your risk and limit your exposure. We suggest limiting exposure to less than 5% on all open trades. Find out more on how to determine appropriate leverage. .
- Always use a stop-loss!
- Do not revenge trade or take trades because you are bored.
- Economic data can create volatility in the market; be aware of when high-impact economic data is being released.
- Journal your trades. Log all the trades you take in a trading journal with the reason you took your trade, your risk-reward metric, and how confident you felt before you took the trade.
- Review your trading journal every week to assess which trades were successful or not- and why. Once you know why you were right or wrong you can evolve your strategy accordingly.
Happy Trading and Good luck!