A trend channel is a set of parallel trend lines defined by the highs and lows of an asset’s price action.
A trend channel, also sometimes called a price channel occurs when the price is moving between two parallel trendlines.
Trend channels can be drawn on charts to help see uptrends and downtrends.
In a bullish trend, the trend line is plotted below the price action, while the trend channel line is positioned above the highs of the price movement.
In a bearish trend, the trend line is plotted above, while the trend channel line is below the price action.
In general, trend lines are used as entry signals because they play the role of a support level in a bullish trend and a resistance level in a bearish trend.
An entry signal is given when the price tests the trend line without violating it. When this happens, the trade is entered in the direction of the trend with a stop loss placed just below the trend line. The opposite trend line can be used as a price target at which to take profit.
For example, in an ascending channel, traders may use the test of the LOWER trend line as an entry for a trade with the trend. A long position is entered with a stop loss placed just below the lower trend line. The upper trend line can used as the profit target.
Trend channel lines most often generate countertrend entry signals, since they act as a resistance in uptrends and support in downtrends.
For example, in an ascending channel, aggressive traders may use the test of the UPPER trend line as an entry for a trade against the trend (countertrend). A short position is entered with a stop loss placed just above the upper trend line. The lower trend line can used as the profit target.
Types of Channels
Parallel lines form trend channels, which just as the trend itself can be ascending, descending, or sideways (ranging).
- Ascending channel (higher highs and higher lows)
- Descending channel (lower highs and lower lows)
- Sideways or horizontal channel (ranging)
Trend Channels Can Becomes Triangles
When the slope of the trend line and trend channel line transition from being parallel, to being convergent, the trend channel forms a descending triangle.
When the slope of the trend line and trend channel line transition from being parallel, to being divergent, the trend channel forms an ascending triangle.