Additionally, it may be interesting for you to learn about a trading indicator that is simple to understand and use, being part of a legendarily successful trading strategy. We're talking about the Turtle trading system, of course. Before we delve any deeper, let's do a quick breakdown of the Donchian channel indicator.
The indicator simply takes a user-defined number of periods and calculates the upper and lower bands. It plots two lines on the chart according to the Donchian channel formula. This straightforward formula says that:. The default value for n is set as 20 in MetaTrader 4, but you can set it at whatever value you prefer. However, some versions of the Donchian channel indicator also plot a third line.
Donchian Channels were invented by trader Richard Donchian , one of the pioneers of technical analysis. The Donchian channel plots two lines on a chart:.
You as a trader, should decide the time frame in question, though the default period number used in the classic Donchian system is 20 days. Although the Donchian Channel is a well-known indicator, it's not one of the standard indicators that comes with MetaTrader 4. If you want to use the Donchian Channel on MT4, you will need to download it as a custom indicator. The reason for this is that many of Donchian channels indicators on the MT4 market might not be that accurate and some of them might slow the platform down.
One of the key advantages of MetaTrader 4 is the accessibility of its programming language. The MT4 user base is large, active and includes a huge variety of custom indicators. But that can also be a disadvantage as this means there is more than one Donchian channel indicator download available and they might be totally coded in a wrong way. If you want to enhance your trading experience even further for free, download the custom MetaTrader Supreme Edition plugin that includes a fully and professionally coded Donchian Channel indicator.
Downloading the Donchian channel indicator is easy. Once you've downloaded it, find the file's location on your computer and copy it to your clipboard. When you restart MT4, you should see the Donchian channel indicator listed in the navigator.
So let's take a closer look at the indicator now. Who were the Turtles and what was the strategy that earned them millions of dollars? Two Wall Street gurus once turned a group of novices into million-dollar traders. As if that's not enough, they did it in a matter of weeks. This group of traders were known as the Turtles. If you don't already know the story, read on. In the mid-eighties, a well-known commodity speculator Richard Dennis made a bet with his friend Bill Eckhardt.
The heart of the matter was a question of nature versus nurture — whether great traders are born that way or whether they can be trained.
Serious enough that Dennis took out ads in the Wall Street Journal and the New York Times, for applicants to be a part of this grand experiment. After an initial training period of just two weeks in Dennis' methods, applicants were let loose with real money. As it turns out, the trading rules they used were actually fairly simple.
In essence, they used what is called a Donchian Trend system. And yes, you guessed it — at the heart of that system is the Donchian channel indicator. The Turtles used two breakout variants, or "systems". The first system System One used a day price breakout for entry. However, the entry was filtered by a rule that was designed to increase the odds of catching a big trend, which states that a trading signal should be ignored if the last signal was profitable.
But this filter rule had a built-in problem. What if the Turtles skipped the entry breakout and that skipped breakout was actually the best possible early entry?
What if that was a beginning of a big and profitable trend that spanned up or down by a huge extent? If the Turtles skipped a System One day breakout and the market kept trending, they needed to use something to get back into the market. That's where System Two day kicks in. The System Two breakout acted as a fail-safe. That is how the Turtles kept from missing big trends that were filtered out.
The strategy using their System Two is pretty much simple: Buy a day breakout if you are not already in the market and short a day breakout if you are not in the market. The strategy using System One is slightly different. Buy a day breakout if the last S1 signal was a loss while go short a day breakout if the last S1 signal was a loss. The Turtles calculated the stop-loss for all trades using the Average True Range of the last 30 days, a value which they called N.
Additionally, the Turtles managed to compound their profits back into winning trades to maximise their winnings, commonly known as pyramiding. The Turtles usually exited their trades using breakouts in the opposite direction, which allowed them to ride very long trends. The exit strategy used in their System Two is as follows:. However, slightly aggressive pyramiding of more and more units had its downside.
If no big trend materialised, the little losses from false breakouts would eat away even faster at the Turtles' limited capital. How did Eckhardt teach the Turtles to handle losing streaks and protect capital? They cut back their unit sizes dramatically.
When markets turned around, this preventive behaviour of reducing units increased the likelihood of a quick recovery, getting back to making big money again.
The rules were simple back then. For every 10 per cent in account drawdown, the Turtles cut their trading unit risk by 20 per cent. This of course applies to bigger numbers. To set up the Turtle system chart, apply the Admiral Markets Donchian channel indicator three times. We used the Turtle trading rules with these settings. You can change the colours and the line width to your preference. As noted earlier, the Donchian channels show the highest high with the lowest low for your specified time.
When the price breaks through the channels, we are seeing new highs or new lows being set. This is an indication of a possible start of a new trend. Set up a daily chart. Wait for the price to exceed the high or low price of the past 20 periods Donchian Channel Open a long or short based on the breakout. The arrows show possible entries. If the previous bar breakout resulted in a profitable trade, the new breakout would be ignored. If you ignore a bar breakout, you might be at the risk of missing a big trend, should the price continue to move in the direction of the breakout.
That is when the above-mentioned System Two might become useful. In the case you didn't open a trade at the bar breakout. Every bar breakout is taken, whether or not the previous one was a winner. In order to use proper money management described at the beginning of the article, traders might add a few additional indicators:. The ATR 20 is used for the exit strategy. Have in mind that exits can be far from the entry price, so the initial stop-loss is placed at 2 x ATR 20 for both systems.
The Admiral Pivot indicator could be set on monthly if you are trading the Daily time frame and it can help with exits. Admiral Pivot uses standard price information, such as high, low and close, and uses it to project possible support and resistance levels, but also much more allowing you to customise different time frames used for calculation. We now know that the Donchian channel indicator is a simple but effective indicator that plots the highest high and the lowest low over a set period of time.
It is useful for identifying price breakouts and is used in some trend-following systems. The Donchian channel indicator is available in numerous versions for MT4 and produces false signals that can be minimised with filters. Markets have changed a lot over the years, so even the Turtle strategy needs some serious modifications.
Additionally, the Donchian channels can be used in many different ways, so feel free to experiment on a risk and cost-free demo account before opening a high-risk, high-reward live account. To see how our award-winning analyst Nenad Kerkez also known as Tarantula trades on Live Account, sign up for free live trading webinars!
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