A Guide to Effective Trading with the Keltner Channel

5 oct 2023

The Keltner Channel is a technical indicator that helps traders analyze price volatility and identify possible entry and exit points. It was developed by Charles Keltner in the 1960s and remains popular among technical traders today.

The main components of the Keltner Channel include:

Moving Average (SMA): This is the average of the price over a certain period of time. The moving average is used as the center line of the Keltner Channel and serves as a reference level for analysis.

Keltner Channel Upper Band: This band sits above the moving average and is usually calculated as the sum of the moving average and the average true range (ATR) multiplied by a factor. It provides information about potential resistance levels.

Lower Keltner Channel Band: This band is below the moving average and is calculated in a similar manner as the upper band, but subtracting the ATR multiplied by a factor. It indicates possible support levels.

The basic idea behind using the Keltner channel is as follows:

• Trend Analysis: If the price is above the upper band of the Keltner Channel, it may indicate an uptrend. If the price is below the lower band, it may indicate a downtrend.
  
• Volatility: A widening Keltner Channel indicates an increase in volatility, while a contraction indicates a decrease.
  
• Entry and Exit Points: Traders use Keltner Channels to determine when to enter and exit the market. For example, crossing the upper band may signal a possible price decline and be considered a sell signal, while crossing the lower band may be a buy signal. However, in the original methodology it is considered that the crossing of the upper line by the price is a signal to open a long position, and the lower one - to open a short position
  
• Signal Filtering: Some traders use other indicators, such as Average Directional Index (ADX), to filter Keltner Channel signals and confirm trend strength.
  

Let's consider this strategy. Entry into a long position will occur when the candle closes above the upper boundary of the Keltner channel and the DMI is above the threshold and shows a green band. Stop loss can be placed on the opposite side of the counter channel and make the risk reward ratio 2:1, for example. For a short position, it will be the opposite when the candle closes below the Keltner channel and the DMI bar will be red and above fresh hope with the same risk reward ratio and the position will reach the target.

This strategy is quite simple and can be traded quite effectively if taking into account risk and money management. You can see one of our realized trading bots using Keltner channel breakdowns here.

Wunder Keltner bot:

Wunder Keltner bot is based on the breakout of the Keltner channel. Therefore we will need two indicators for a complete strategy: DMI and Keltner Channel.

What is DMI?

DMI stands for Directional Movement Index, and it is a technical indicator used in financial markets, particularly in the field of technical analysis. DMI is designed to assess the strength and direction of a trend, helping traders identify potential trend breakouts and the overall market momentum. It is a straightforward yet powerful tool that can be applied to various trading strategies.

The Directional Movement Index consists of two components: the Positive Directional Indicator (+DI) and the Negative Directional Indicator (-DI), which are both calculated using price movement data. Here's how these components work:

Positive Directional Indicator (+DI): This component measures the strength of the upward price movement or the bullish trend. It is calculated by comparing the difference between today's high price and yesterday's high price to the difference between yesterday's high and yesterday's low. The result is then smoothed to provide a more accurate reading.

Negative Directional Indicator (-DI): On the other hand, the -DI measures the strength of the downward price movement or the bearish trend. It is calculated similarly to the +DI but focuses on the downside price movements.

Once the +DI and -DI values are calculated, the DMI itself is often represented as a single line, along with a complementary line known as the Average Directional Index (ADX). The ADX helps traders assess the overall strength of the trend, regardless of whether it's bullish or bearish.

Let's take a look at the key entry points. To enter Long, we need to see the deviation above the norm, and it is also important for us that the ADX value is above the specified level. You can see an example of a long position and also an example of a short position.

https://www.tradingview.com/x/ZLXhckBC/

For calculation, 2 channels are used, one for long trades, and the other for short trades. The division into 2 channels is used for more accurate entry calculations depending on trend directions. The ADX indicator is used to filter signals and determine the trend strength. ADX determines the strength of the trend and confirms the entry into the strategy if the value is greater than the level indicated in the settings.

https://www.tradingview.com/x/UoqmxEgL/

A function for calculating risk on the portfolio (your deposit) has been added to the script. When this option is enabled, you get a calculation of the entry amount in dollars relative to your Stop Loss. In the settings, you can select the risk percentage on your portfolio. The loss will be calculated from the amount that will be displayed on the chart.

Conclusion:

The Keltner Channel is a valuable technical indicator that can help traders assess price volatility and make informed decisions about entering and exiting positions in the financial markets. Developed by Charles Keltner in the 1960s, it remains a popular tool among technical analysts due to its simplicity and effectiveness.

Remember that no trading strategy is foolproof, and success in the financial markets requires discipline, continuous learning, and adaptability. It's essential to backtest and practice any strategy in a risk-controlled environment before implementing it with real capital. Additionally, always stay informed about market news and events that can impact your trades.

Ultimately, the Keltner Channel, when used in conjunction with other tools and a well-thought-out strategy, can be a valuable asset in your trading toolkit, helping you navigate the complexities of financial markets and work toward your trading goals.