A channel line, or as it as sometimes called, return line, is a variation of the trendline technique. Occasionally, prices will trend between two parallel lines, the trendline and the channel line. This event can be used to a profitable advantage once the trader recognizes that a channel exists.



Looking at the uptrend above, a channel line can be drawn at the first prominent peak (point 2). If the prices dip back down to the trendline at point 3, rallys back up to the channel line at point 4, and dips back to the trendline at point 5, then a channel does exist. The same is true for the downtrend below, except for the dips and rallies being reversed in a down direction.



Do you see the value here? All treaders, where day trading, swing or options trading can use the basic up trendline to initiate new long positions, and the channel line provides points for taking short term gains. just like the basic trendline, the more times a channel is successfully tested and remains intact, the more important and reliable it is. The more aggressive trader may initiate a countertrend short position here, but keep in mind trading in the opposite direction of the prevailing trend is a dangerous and costly tactic if it fails.

Whereas the breaking of a trendline indicates a probable trend change, the breaking of the rising channel line has the opposite meaning. It signals the acceleration of the existing trend. Here some traders see the breaking point of the cahnnel line in an uptrend as the opportunity to add long positions.

The channel technique can also be used to spot failures to reach the channel line, signaling the weakening of a trend. As a general rule the failure of any move within an established price channel to reach one side of the channel, usually indicated the trend is shifting and increases the chances that the other side of the channel will be broken. See below how the failure of prices to reach the channel line at point 5 serves as an early warning the trend is turning and increases the odds the trendline will be broken.



A channel can also be used to adjust the basic trendline. Below, note when the channel line is broken with point 5, our trader drew a new trendline parallel to the new up channel line. With the uptrend accelerating, it stands to reason the basic trendline will accelerate as well.



When prices fail to reach the channel line, as seen below, a down trendline can be drawn between points 3 and 5, and tentative channel line can be drawn parallel from point 4 to show where initial support can be seen.



The measuring implications of the channel line state once a breakout occurs from the existing price channel, prices usually travel a distance equal to the width of the channel. So the trader simply measures the width of the channel and projects the amount from the point at which either trendline is broken. Even though the channel line works often enough to be a very useful tool, remember, it's the basic trendline that is most important.

Andy Swan is co-founder and head trader for DaytradeTeam.com. To get all of Andy's day trading, swing trading, and options trading alerts in real time, subscribe to a one-week, all-inclusive trial membership to DaytradeTeam by clicking here.