Identify and understand price channels

Before reading this lesson, you should have previously read through:

Price, or trading channels are a way to visualise trends and ranges on a chart and can indicate levels where the price is most likely going to reverse direction.

The video player is loading...

What is a price, or trading channel?

Whenever the price of an asset is trading within the boundaries of two trend lines for a prolonged period of time, it is said that the asset is trading within a channel.

A channel can be drawn by either two trend lines or by a channel tool within your charting software. Whichever method you choose to use, it is a manual process to put them onto your chart.

Identifying a price channel

When the price is in an uptrend, as illustrated below, it is called an ascending channel.

Ascending channel

When the price is in a downtrend, as illustrated below, it is called a descending channel.

Descending channel

If the price is ranging within a horizontal support and resistance zone, as seen below, it is called a horizontal channel.

Horizontal channel

If there is an uptrend or a downtrend, it means that you can usually draw a channel.

You need to draw two trend lines; one that connects two lows and one that connects two highs. It does not matter if two or more candles pierce through the trend lines, however most of the candles should be within the boundaries.

Why does price stay within a channel?

Channels are essentially a self-fulfilling prophecy and work because many traders have identified them and use them to trade. The more traders that identify a channel, the more the channel will be used to enter and exit trades.

Channel illustration without arrows

To illustrate this, look at the image to the right, which represents an imaginary asset that has never been traded before – at the beginning, it is priced at $1. Everybody wants to buy it and so the price rises up to $4.5.

You can see in the chart that at the price of $4.5, buyers who bought at $1 may feel that they have made enough of a profit and start to sell. Now that these traders are selling, there is more supply than demand for that asset and the price starts to fall. To secure their profit and avoid losing more in the sudden downtrend, more and more people start to sell and the price falls to, say, $2.

At this price, traders may think that the asset might be cheap again, because they are aware that the asset previously reached $4.5, and so they start buying again.

As soon as the price of the asset reaches $5, traders may decide that the price of the asset is too high, because it previously sold off at $4.5. To secure their profit, they start selling; the price will start to fall again under the new selling pressure. When the asset reaches $2.5, this becomes cheap in comparison to $5 and so traders start buying again.

Channel illustration with arrows

Traders can now see this price action — the zigzag of the price action shown on the chart. In the image to the right, the zigzag of price action produces the highs number_1 and the lows number_2 and traders use these to draw trend lines; hence the channel is born. A channel can be traded for some time until the fundamentals change and the price breaks out of the channel, which then makes the channel invalid.

Below, you can now test your knowledge with some exercises.

Exercise 1: Identify the channels Show exercise
Exercise 2: Identify the channels Show exercise
Exercise 3: Identify the channels Show exercise
Exercise 4: Identify the channels Show exercise

Looking for a mentor?

Matthias from our Tradimo Premium team will design a learning plan tailored to you that gives you access to new courses and live webinars every month as well as priority private email support.

Order our Tradimo Premium Service now

Using channels in trading decisions

The easiest way to use a channel for trading is to presume that the asset will stay within the boundaries. You then take a short trade whenever the price touches the upper boundary and a long trade at the lower boundary.

In the chart below, price ranges within the ascending trend lines and forms an ascending channel, thus creating buy and sell opportunities.

Channels - where to enter

es1 Potential sell opportunities
el2 Potential buy opportunities

Another way to use channels in trading is to trade breakouts. In this case, as soon as a candle opens and closes outside the channel, you will take a trade: a long trade when the upper boundary is broken and a short trade when the lower boundary is broken.

In the chart below, the price breaks through the channel to the downside and closes on the outside — this creates a potential sell opportunity.

Channel break

number_1 Price breaks through the channel and closes outside

Price channels are very powerful and traders adhere to them. This means that when the price breaks out of a channel, many of these breakouts could be false. In order to avoid a false breakout, wait for the candle to close outside of the channel before entering, or even wait for a re-test of the trend line.

Using channels in multiple time frame analysis

The third possibility when trading channels is to use them as guidance in multiple time frame analysis. This means that if the asset is trading around the upper boundary on a higher time frame, you can enter short trades on the lower time frames with a tighter stop loss. Likewise, you can enter long trades on a lower time frame when the price is near the lower boundary on the higher time frame.

In the chart below, the channel is confirmed on a higher time frame.

Channels trade setup M5

number_1 Swing highs and lows confirming the channel
el2 es2 Potential trade opportunities – see below

In the following chart, the same channel is used on a lower time frame to more accurately identify potential buy and sell entry points.

Channels trade setup M1

el1 Potential buy entry at the lower boundary of the channel
es2 Potential sell entry at the upper boundary of the channel

We have some more exercises for you to check if you remember everything from this lesson.

Exercise 1: Find possible entries using channels Show exercises
Exercise 2: Find possible entries using channels Show exercises

Summary

So far, you have learned that ...

  • ... a price channel can be identified whenever the price is trading between two boundaries.
  • ... there are three types of channels, an ascending channel found in and up trend, a descending channel found in a down trend and a horizontal channels when the price is moving in a range.
  • ... when a channel is identified, more and more traders use them and so they become a self-fulfilling prophecy.
  • ... you can find short trades when price touches the upper boundary and you can long short trades when price touches the lower boundary.
  • ... you can also use the break out of a channel to find trades.
  • ... you can use channels with multiple time frame analysis to find low risk entries.

Looking for a Top Broker? Sign up through Tradimo & get extra benefits!

eToro Plus500 Markets.com FXFlat

See all top brokers


  • When trading with channels, is there a prefered timeframe i.e 30/5mins etc ?
  • Hi roop!

    You can find channels on any timeframes and it again comes down to your trading system. Lots of traders also identify channel on higher TF and then go down to lower TF for more precise entries (just like we do in beginner strategy) smile.
  • Hi, in these lessons we have understood where the trading opportunities are. So what about he PT and SL? Shall we put SL below the trendline for long opportunities and above for short opportunities? if yes, then how far from he lines? And how to decide on PT?is it still the next PP?
  • You can find channels on any timeframes and it again comes down to your trading system. Lots of traders also identify channel on higher TF and then go down to lower TF for more precise entries
  • But is not neccessary to put stop loss on it when using channel boundary
  • If it is an uptrend and price is rising and there is a channel structure, why do traders that started at 2.5$ sell at 5$, why not to wait untill the prise will rise even more and then sell?
    Sometimes the channel is too narrow to be able to earn anything above the spread... Often filling the order form takes me way too long, till i'm done the price did change to the point where entering the trade is no longer profitable. Yet many traders do enter the trade and somehow manage to earn just a small amount above the spread. Are those the scalpers? How do they enter their orders that fast? What tools do they use to enter the orders faster than me?
  • Hi Maindbox,

    This is a good question and there is a simple answer to it.
    Traders get out because they want to manage their risk, if they leave it to bounce back to the bottom trendline there is no guarantee that it will bounce back up. We think it is more likely to go up again but then again we don't know so we try to take profit or at least a bit of the profit to manage the risk we have on this position.
    As for the scalpers they work with pending orders and not market orders. So the pending order is always triggered when the market price reaches that level. Also scalpers search for a different kind of broker than swing traders.

    Regards,
    Timothy
  • Hi Timothy,
    I have a demo account with GKFX, seams like they allow scalping, do they? Does scalping require a lower spread to be profitable? Does Tradimo teach scalping?
  • Hi Maindbox,
    It is not explicitly stated that scalping would be banned. Most of the regular forex accounts are not very suitable for scalping. For scalping you would want to have spreads 0.5-1 pip max. We did have scalping coaching a few weeks back done by Jack and possibly will be repeated in the future. Please check the coaching page below for schedule: http://en.tradimo.com/coaching/
  • Hi Maindbox,

    You can ask for a personal coaching once you reach silver status.
    We do not offer lessons on scalping now because it is difficult to learn and requires alot of practice.
    Also for the question if GKFX allows scalping you will need to ask them for a conclusive answer.

    Regards,
    Timothy
  • Hi Dear forum members,
    I created a channel on EurUsd very first time and i want to see whether it is correct or wrong.
    Please see the below picture and check it and guide me if i am wrong.

    Thanks,

    http://i60.tinypic.com/2rxidtl.jpg

    Regards,
    Tillthen4u
  • Hi Tillthen4u,

    Your screen shot is pretty small, but it seems to me that your channel wraps the more recent swings that I can guess on lower time frames. That looks good for me. Do not forget that such drawing includes a certain subjectivity, and depending on who is watching the chart, the drawn channel may vary.

    Happy trading!
    Sebastien
  • Hi renorx54,

    Thanks for your reply.

    here is a new link to the picture of Channel

    http://i60.tinypic.com/flwxvp.jpg

    Regards,
    Tillthen4u
  • Hi Tillthen4u,
    I think it is a good channel but better shows on 4h than on daily. To draw a channel you usually need 2 points on one side and at least 1 point on the opposite. Some people like to trade the 3rd touch of the channel on the same side. What are your plans with the channel? Please keep in mind that we have a very important ECB rate decision tomorrow, and that might overwrite technicals:
    en.tradimo.com/news/ECB-interest-rate-live-trading-open-day_162182/

    Regards.
    Peter
  • HI Hindsighthero,

    Thanks for your advice.I will keep the ECB rate decision in mind and trade according to it.

    Regards,
    Bilal ( Tillthen4u)
  • In the first quiz question, one of the possible answers (not a correct one) to the use of channels is identifying volatility. Why is this not the case? Does having a wider channel or range not suggest higher volatility? Perhaps volatility by definition means the price does not adhere to a horizontal or trending channel?

    Many thanks.
  • Hi Redline,
    I understand what you are saying, it can be used to measure volatility, however there are much better tools for that such as ATR, Bollinger Bands etc... However the quizzes only meant to test your understanding of the lesson and the information contained herein is by no means exhaustive. The first question of the quiz relates to the first sentence of the lesson: "Price, or trading channels are a way to visualize trends and ranges on a chart and can indicate levels where the price is most likely going to reverse direction." and you can always find the correct answer within the text of the lesson.
    Regards.
    Peter

Register Now - It's free!

By clicking on the "Get instant access" button, you agree that you have read, understood, and accepted the Terms & Conditions.
Or