Price Channel

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The Price Channel technical Indicator was developed by Ralph Nelson Elliott to help confirm completion of wave counts in the "Elliot Wave Theory". The Elliot Wave theory (inspired by DOW Theory) identifies a repetitive pattern in the general trend as a sequence of five waves in the direction of the main trend and three corrective waves.

Once a trend has been established, the entire trend will often stay within a channel, which can be constructed by drawing trend-lines along the bottoms and tops of the waves. The purpose of a Price Channel technical indicator is to draw such trend-lines. The Price Channel calculations are simple:

• The upper band (line) of the channel is constructed as the highest high over a specified period of time (specified number of price bars);
•  The lower band (line) of the channel is constructed as the lowest low over a specified period of time;
•  The middle line is constructed as the average of the highest high and the lowest low.

As was mentioned previously, the purpose of the price channel is to define the end of the waves and predict the security's trend development. There are two main concepts that are accepted when using the Price Channel:

• During an up-trend, the price pushes the upper channel line-up;
•  During a down-trend, the price pushes the lower channel line down.

Based on these concepts, technical analysis would say to buy when the stock (index or any other security) pushes the upper line of the channel up and to sell when the stock pushes the lower line of the channel down. If, after pushing the lower line down (down-trend), the price moved up and touched the upper channel line, it could be a signal to close your short position (if you are not already in cash). Controversially, a long position should be closed if, after pushing the upper channel line, the price fell and hit the lower channel line. According to these rules, for example, a trader on the NASDAQ 100 chart below should sell at point "A," go into cash at point "B" and buy at point "C."

Chart 1: NASDAQ 100 Index (^NDX) - Price Channel

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