For anyone involved in futures trading, Richard Donchian is viewed as the high guru. A Connecticut-born Yale graduate with a degree in Economics, he went on to become a trader specializing in commodities and futures. Mr. Donchian brought mutual funds out into the wider trading sphere, and developed a system for timing trends in futures investing. This system came to be known as the Donchian 5 20 system or the triple Donchian 5 20 system.
He began his professional career working in his parents' rug business, but subsequently became fascinated with the stock market. This passion intensified after the 1929 stock market crash. After serving abroad in World War II, he returned to the US and began focusing on investment and securities analysis. This focus led to the development of his work with futures, and his trend following analysis. In the early 60s, he began writing a weekly trend following newsletter that had a readership of over 10,000 per week for the next 19 years. His work became the cornerstone of futures trading and is responsible for successful trading alerts and accurate commodities predictions to this day.
Donchian channels are available in almost every commercially available charting software. A line is marked for the high and low values visually showing a channel on a stocks price.
The Donchian channel is helpful in visually seeing the volatility in a stock or market. If the price action is flat, the Donchian channel will narrow. If the price changes a lot the Donchian channel will be wider. This is helpful in a variety of settings because stocks alternate between periods of low volatility and high volatility. On the Donchian channel, you will see it go through periods of predictable expansion and contraction. Its primary use is for providing signals for going long or entering a short sale. If a stock trades above its highest n periods high, then a long is entered. If it trades below its lowest n periods low, then a short trade is entered.
The Donchian channel can also be used to set a stop-loss price. When the lower channel wall is broke, a long stop-loss executes. When the upper channel wall is broke, a short position stop-loss is executed.