Commodity Channel Index
A Wealth of Knowledge
The CCI also formally known as the Commodity Channel Index is an oscillator and one among the widely employed indicators which may be used in a variety of ways. It can be used to confirm trend reversals through
- Divergence and getting into a trade at an accurate temporal order (retracements) through
- Overbought and oversold signals, furthermore
- Trading breakouts by plotting trend lines on the indicator itself and once the indicator breaks those trend lines then it confirms a breakout.
Using CCi to trade Retracements
A reading higher than the +100 value is considered overbought whereas below the -100 value is considered oversold. As with other overbought and oversold indicators, when prices are regarded as overbought. This implies that there is a good chance that the value will correct to representative levels. Therefore, if values cross further outside of the above range (parameters +100 and -100), a retracement trader will wait for the cross back inside the range before taking a trade.
Rules to trade a CCI retracement
The first thing one should do is identify the trend from a higher time-frame. Now the question to this may be "what exactly is a higher time frame?", well, it is relative. Depending on the time-frame one is trading firstly. For instance if one is trading a 5 minute chart then obviously one would not have to look at a Daily chart, a weekly chart or a monthly chart for that matter, I mean one is trading a 5 minute chart, which is a short term style of trading having to look or observe a daily chart would be irrelevant as they are too far apart and will mislead a trader. Smaller time-frame traders are concerned with what is happening now, as in "currently" and not what is going to happen tomorrow or a week later. With that being said, one is to look at a chart that is not too far apart from the chart they are trading. So, how do you determine a "higher time-frame" relative to the time-frame you are trading? Well, one can use a 4-6 factor to decide their higher time-frame. So you simply multiply your time frame by either 4 or by 6 for instance if one is trading a 5-minute chart, using a 4-6 factor they can times it by 4 and it will equate to 20 minutes. However, there is no 20-minute time frame on the MT4, so you can then times it by 6 which will then equate to 30 minutes. So meaning when using a 4 - 6 factor, your 'higher time-frame will be 30 minutes which is not that far apart from the time-frame you are trading and should not mislead a trader in their trading. So firstly identify the trend from a higher time-frame which will be 30 minutes when trading the 5-minute time-frame. If for instance one is trading a 1 Hour chart, one would then times their time-frame by either 4 or 6 to get their higher time frame which will amount to 4 Hours as there is no 6 Hour time-frame on the MT4 so 4 Hours it is. Easy huh? So determine your trend on a higher time-frame then establish your bias there, meaning if it seems to be a downward trend that is prevailing on your higher time frame then you want to sell on your entry timeframe. Or, if it is the opposite, "uptrend" on your higher time-frame then you want to do nothing else but buy on your entry time-frame. So identify the trend from your higher time-frame then trade in the direction of the trend from your higher timeframe.
When the trend is an uptrend from your higher time-frame, then one is to wait for the CCI to cross below -100 meaning the market is oversold and a corrective is likely to happen as oversold indicates the exhaustion of sellers. So from a higher time-frame one has identified an uptrend, then when one goes to a smaller time-frame the CCI is below -100 (Oversold) this shows the likelihood of a retracement forming very soon. However, it is also worth mentioning that, one must not take a trade immediately as the CCi crosses below -100 (Oversold) as it is the case with many other oscillators. The indicator can stay oversold a while. With this in mind, it is best to wait for the indicator to cross back, above the -100 (Oversold) region. This now confirms a buy signal. One should seek to hold the trade for at least three times the size of the stop loss distance. This ensures a 1:3 risk to reward ratio.
Similarly, in a downtrend scenario, this basically after one has determined a downtrend from their higher time-frame. Thereafter the only thing one wants to do is basically sell on their entry time frame as it seems to be a downtrend that is prevailing on a higher time-frame. Remember, the the trend is your friend. So you want to trade in the direction of the trend, as with the surfers surfing with the waves and not against them. So you want to trade in the direction of the trend prevailing in your higher time-frame. Then on your entry time-frame, you want to wait for the CCI to go above +100 (overbought), and as already said previously, one should not take a trade immediately when the indicator crosses above or below oversold or overbought regions/territory. Rather wait for the indicator to cross back. So in a downtrend scenario, one has to wait till the indicator crosses back below +100 as if returning to normal condition. So one will sell on that regard.
This is based on the notion that whatever information one is getting from the indicator or whatever information the indicator is graphically representing to us. It gets that information from the price movement. Therefore one will be of the belief that at any point in time, whatever the price is doing whether it is moving higher, making higher highs and higher lows, therefore, we expect our indicator to indicate such. For example on an RSI indicator, this will be indicated by the indicator or the RSI moving above 50 and staying above 50 to indicate that the market is in an upward trend or current momentum is to the buyers. Therefore one would then look/seek for buying opportunities on that regard. So, to restate this. With the indicator getting data from the actual price movement, then we expect that the indicator is in congruence with the price movement. However, as you will come to notice/realize, this is not always the case. In a case where the indicator is doing something from the security price, then it is said that the indicator has diverged. For as long as the price appears to be going up but the indicator appears to be going down for some reason. This then constitutes what is called "divergence".
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