The three lines of the Donchian Channels indicator identify bullish and bearish extremes that favor reversals as well as breakouts, breakdowns and emerging trends, higher and lower. It helps to accurately determine the direction of the asset price and its fluctuations. Donchian Channels identify comparative relationships between current price and trading ranges over predetermined periods.
The Pocket Option trading platform offers Donchian Channels indicator among its default technical tools. You can select it from the option and click to activate on the screen.
Appearance and settings
Successful futures trader Richard Donchian developed the indicator in the mid-twentieth century. Later his friends nicknamed him “the father of trend following” because he always could predict the direction of the trend. The indicator was adopted to binary options trading from the stock and foreign exchange markets.
Some unexperienced traders claim that Donchian Channels look like Bollinger Bands, but it is not the case. The main difference is in the formula used to build the channel boundaries. The formation of lines is based on the average value of price extremes taken over a certain period.
Donchian Channels are three lines generated by moving average calculations that comprise an indicator formed by upper and lower bands around a mid-range or median band. The upper band marks the highest price of a security over N periods while the lower band marks the lowest price of a security over N periods. The area between the upper and lower bands represents the Donchian Channel.
The recommended value for the Donchian is a period of 20, that’s why it is a default setting in the Pocket Option terminal.
How to trade with Donchian Channels?
Donchian Channels identify comparative relationships between current price and trading ranges over predetermined periods. Three values build a visual map of price over time, similar to Bollinger Bands, indicating the extent of bullishness and bearishness for the chosen period. The top line identifies the extent of bullish energy, highlighting the highest price achieved for the period through the bull-bear conflict. The center line identifies the median or mean reversion price for the period, highlighting the middle ground achieved for the period through the bull-bear conflict. The bottom line identifies the extent of bearish energy, highlighting the lowest price achieved for the period through the bull-bear conflict.
Let us consider the case with high volatility assets. We need to use a candlestick chart and set It the timeframe for binary options less than 15 minutes.
When the trading terminal is set up and the indicator is installed, wait for signals. In the case of Donchian Channel s trading they are as follows:
- CALL when a candlestick closes outside the lower boundary of the channel. If you want to double confirm, than wait for a situation where the price reached the lower line and then rolled back, leaving a long spike.
- PUT in the opposite case, focusing on lines crossing of the upper border.
The expiration period must be at least three candles.
For a 1 min timeframe, it will be 3 minutes.
In general, the trading strategy based on Donchian Channels brings 75% of success but remember that markets move according to many cycles of activity. An arbitrary or commonly used N period value for Donchian Channels may not reflect current market conditions, generating false signals that can undermine trading and investment performance.