Traders use various technical analysis tools to identify emerging trends and trade that direction profitably. A popular trending pattern that traders often rely on is called a price channel.
An “upward channel” or “upward price channel” is formed by drawing parallel lines between the perceived support and resistance levels between which an asset trades on candlesticks.
Ascending channel bases
An ascending channel is formed when price action can be kept within two upward sloping parallel lines. First, the main trend line is drawn by merging the two reaction lows. Then a parallel line is drawn connecting two reaction highs. This line is called the channel line.
The main trend line is the support area from which price will recover and the channel line will act as resistance from which price will move down. In general, the price fluctuates between these two lines. As the price continues to recover within the channel, the ascending channel is considered bullish.
In the chart above, the two reaction lows (marked as ellipses) can be connected to form the main trend line. Ideally, two points are needed for the channel line, but a parallel line with only one reaction high can be drawn for early identification of a channel.
As seen above, price bounces off the main trend line and turns down from the channel line. This means that traders will buy and sell near the main trend line when the price hits the channel line. Price movement within the channel can be random and does not follow a set pattern.
As the price continues to rise within the channel, this shows that the trend is bullish. Traders use major trendline corrections to buy as they offer a low risk entry point.
A break out of the channel signals an increase in bullish momentum, while a break below the channel signals a possible trend reversal.
Breaking below the channel does not always result in a downtrend as the price sometimes stays in the range for a few days and then resumes the uptrend.
Ascending canal bursts
The chart of FTX Token (FTT) shows an ascending channel where the main trend line has been drawn by connecting the two reaction lows. A parallel line from the reaction peaks was used to draw the channel line.
As shown in the graph above, the price stayed largely within the channel from December 2019 to mid-December 2020. Corrections near or around the main trend line could have been used as a low risk buying opportunity by holding a tight stop loss.
Usually a breakout from the channel suggests that bullish momentum has increased, but in this case the breakouts turned out to be bull traps twice. The first closure above the canal line on August 30, 2020, returned to the canal on September 3, 2020.
Another close above the channel on November 30, 2020 failed to attract buyers at higher levels and the price re-entered the channel on December 1, 2020. This shows that there is no certainty in trading, so traders should always a. use stop loss to protect their positions.
On the third attempt, price finally broke out of the channel on December 16, 2020 and the bulls defended the retest of the breakout levels between December 20 and 24. This meant that previous resistance had turned to support and bullish momentum should pick up.
A breakout from an ascending channel, if persistent, shows the increase in momentum. That usually leads to a stronger rally. The target target can be calculated by adding the height of the channel to the breakout level.
In the above case, the height of the channel is $ 1.15. Add that to the breakout level of $ 4.70, and you get a target of $ 5.85.
However, the rally turned vertical and quickly hit $ 10.10 on January 7, 2021. This shows that the target target should only be used as a guide and other supporting indicators should be considered before closing the position.
Ascending channel divisions
The FTT / USDT pair again formed an ascending channel and the price rose from around $ 20 to $ 63.10 within the channel. After the sharp rally, the course collapsed under the canal on May 17th. The bulls attempted to push price back into the canal on May 18 but failed.
This attracted strong sales and the pair started a downward trend. The depth of the channel is $ 14.90 and the collapse occurred at $ 50.56. Subtracting the depth of the channel from the breakdown level gives a target of $ 35.66.
However, the downtrend continued and the pair hit $ 21.89 on June 26th. This shows that traders should be cautious if the price breaks out of the channel.
Not all mishaps result in a sustained downward trend
In the example above, Bitcoin (BTC) was traded within an ascending channel from April 2020 to early June 2020. Price broke below the channel’s main trend line on June 11, 2020, but the BTC / USDT pair did not start as a downtrend.
Instead, the price traded within a range for a few days and then resumed its upward trend. This shows that breaking below the channel doesn’t always result in a downtrend. Traders should watch other supporting indicators and price action before they turn bearish.
The central theses
An ascending channel indicates the early stages of a stronger uptrend and provides traders with the option to buy on dips to the main trend line.
A break out of the channel usually indicates an increase in momentum, resulting in a sharp rally. It is usually better to wait for a successful re-test of the breakout level to gain new positions as breakout turns out to be a bull trap at times.
When price falls below the channel it is a sign that the uptrend has ended, but it doesn’t always result in a downtrend. Sometimes price trades in a range after falling below the channel and then when volume picks up the asset starts a new upward move.
Traders should use the ascending channel in conjunction with other technical tools to further deepen their buying and selling decisions.
The views and opinions expressed are those of the author only and do not necessarily reflect the views of Cointelegraph.com. Every step of investing and trading involves risk, so you should do your own research when making a decision.