The Donchian Channel or Price Channel is a trend indicator developed by Richard Donchian who is widely known to be considered a further trend. Like bands and other channels, such as Bollinger Bands and Keltner Channels, the Donchian Channel is a stretch of price depicted on a price chart where the plot is at the highest level of the high and the lowest level of the low level in a given number of periods. The Donchian canal can also be used to observe market volatility as it moves wide and narrows as price volatility increases and decreases. This indicator forms the basis of the breakout system commonly used by Turtle Trader.
The Donchian or Price Channel channel basically performs two calculations
This indicator calculates the highest level of the high level during a given back period and the lowest level of the low level in the same back period.
Some charting platforms also plot the centerline on the Channel, which is only the highest average high and lowest lows during the specified back period. The default view for the Donchian Channel period is 20.
The formula with default values is:
- Upper Channel Channel = 20-period high level
- Bottom Canal Channel = 20-period low-level
- Middle Channel Path = (Upper Channel line + Bottom Canal line) / 2
The Donchian Channel Method identifies when the price broke high or low in the specified back period.
When the price breaks the upper line, this indicates a potential uptrend and long signal. And also closes open (sell) positions (short). When the price breaks the bottom line, this indicates a short sell signal and closes long positions.
From the signal, Donchian uses a stop-and-reverse, always-on-market system. Then switch from buying to selling when prices break the bottom line. And sell a switch to buy when the price breaks the upper line.
However, this is not highly recommended as it does not allow proper money management.