How To Trade With The Volatility Indicator – Donchian Channels: Donchian Channels are a volatility indicator that can be used alone or as part of a more complex trading system. This indicator can help you determine optimal entry and exit points, as well as give you an insight into periods of high and low volatility.
How do they work?
Donchian Channels are a product of three lines. The upper line highlights the highest price observed over a given period of time and remains at the same level until a new maximum is reached. The bottom line works similarly. It reaches the minimum value as the price drops and remains at the same level until a new minimum is reached. The middle line, as its name suggests, is located between the two. For the indicator to look like a channel, the area between the top and bottom line is shaded.
How to apply it when trading?
Why would a trader want to know (and visualize) the maximum/minimum price in line form when it is already available in the price chart itself? The thing is, Donchian Channels will help you identify the relationship between the current price and trading range over a period of time. The latter can be adjusted by setting the indicator. Like Bollinger Bands, this indicator will help you identify how bullish or bearish the current market is. The upper line indicates a buying pressure, the lower line is a selling line.
First, the combination of the upper and lower lines can be treated as dynamic resistance/support levels. In this case, traders expect the asset price to rebound from the top line during an uptrend and from the bottom line during a downtrend. Note that during a strong trend, regardless of whether it is positive or negative, candles will close consecutively at higher/lower levels, thus pushing the line in the direction of the prevailing trend. By using this strategy, traders can open a ‘BUY’ position when the asset price is above the middle line and a ‘SELL’ position when the price is below the middle line. Consider receiving a confirmation signal from this indicator before opening a trade.
Upper and lower lines as support/resistance levels
Secondly, the Donchian can be used in combination with the MACD. Here, the Donchian Channels will work exactly as described above. The MACD, as you probably already know, can send buy and sell signals on its own. When the MACD fast line crosses the slow MACD line from above, an upward trend can be expected. When the opposite occurs, a bearish trend can be expected. In other words, the MACD is used as confirmation of the Donchian signals.
Buy signal received from Donchian and MACD
Finally, Donchian Channels can also be used in conjunction with a Volume Oscillator. In this case, the Volume Oscillator does not provide buy or sell signals but gives clues to the optimal entry points. When the asset price is above the middle line of the ALMA and the trading volume is growing, the bearish movement can be expected to continue.
SELL signal received by the Donchian
Please note that none of the above strategies are capable of providing 100% accurate signals of the moment (something that happens with any other trading strategy). Therefore, it is advisable to develop your own trading system and test strategies on the demo account before putting your money at risk.
How is it configured?
Donchian Channels can be found under the ‘Volatility’ tab after clicking on the indicators button in the left corner of the screen. There are no adjustments beyond the perspective and the three basic lines and the fill color between them.
The default setting for the period is 20, but it can be changed according to your needs.