Monday, June 25, 2012

Channel risks

A large gap up or down often does not result in a steep trend but rather in a shallow sloping channel. Of course, all moves can be contained in a generic parallel trend and trend channel lines and be called a channel but for the purposes of this post, a channel is a specific type of price action that represents a very hard to trade move.

A channel can be easily distinguished from a trend by the following characteristics:

In a channel, most with-trend bars overlap each other. In a trend most bars don't.
Compare the leg from b7 down to b12 vs the leg up from b47 to b50. Notice the almost complete overlap of bars in the former.

Most bars in a channel have tails on one of both ends.
A strong trend should be made of trend bars, at least in the trend direction. Notice the strong closes on the up legs b47050 and b68-72.

Channels are highly likely to take out fixed stops and breakeven stops.
Shorts below b7 were triggered and unless they had a large stop of at least two points or more, were probably stopped out. Strong signal bars at b14 and b18 had their breakeven stops taken out. Such price action can make it hard to catch a swing using the normal trade management style.

Channels can reverse on the most unlikely bars.
This makes channels very dangerous to trade. For example, today the channel reversed on b31, which was a bull doji not unlike b9,16,27 before it.

The only way to trade channels is to get in early trail behind every new swing point (b14,18,23,28 for b7 shorts). Channels can reverse at anytime and channel in the opposite direction and that makes taking a potential early reversal (say within the first hour or two) potentially a day long swing.


  1. Hi Cad,

    How come you've traded B5 as BP Buy?

    There had to be a clear bull trend for you to buy this PB and there wasn't any?

    I would say B7 was a clear and deep 1PB + bull trap which had to be traded instead, will you agree?

    Also, why you have tried to trade counter trend at bar 16?

    The signal bar was doji and overlapping and wedge was not distinctive at all.

    Also I wonder why you haven't traded bar 14 MDT and top of channel - I guess that one was an obvious high probability set up?

    1. Today's open was a setup for a channel in either direction. I incorrectly assessed an upwards channel from b6 at least till a test of the ema.

      b7 was a 1PB but since it was overlapped by 4 bars, chances of a 5t stop working were low. I entered after it triggered and took out the theoretical stop.

      b16 was a possible W reversal. W reversals in the first hour or so can give a prolonged trend in the opposite direction. On channel days, the W is never distinctive and a signal bar is rarely good (see bar 31). Its not worth taking it except close to the first hour due to the risk:reward ratio.

      In hindsight, I should have swung the 1PB as far as it would go but mistakes can and do happen in real-time.