Channels are similar to support & resistance lines in that they provide a range in which the asset value is ought to move and channels indicate trends. Yet the difference lies in that channels are a combination of two diagonal within which the asset value moves, whereas a support or resistance line is a single line against which the asset value bounces (tests) before breaking or falling through.
In the chart above, Activision (ATVI) is taken as an example. It is clear that we can distinguish two separate channels over the course of time. One evolving from January 2017 up until mid-2018, and another one which just started a year ago in March 2019 and is still-lasting - With the exception of a short but heavy Corona-correction in March 2020.
Now of course it is easy to draw lines on a chart afterwards and recognising patterns in it. However, as an investor we'd like to make some money also and recognise those patterns before they come to an end. In the example above, a typical technical investor could decide to step in around September - December 2017 when the channel is defined, and step out as soon as the asset value significantly fall outside the channel - That is around October - November 2018. A typical technical investor would then step in again around September 2019, once the channel is confirmed and hold on to ATVI up until the asset value drops through the lower line of that channel (Not taking into account the Corona correction in March 2020).
This method surely implies that an investor will not benefit of the full upswings of assets. However, it gives another indication on when to step in, but more importantly about when to step out of an asset.
In general, the strength of a channel is marked by a couple of elements, which are similar to support & resistance lines:
- The longer the history of the chart, the stronger the explanatory power of the channel
- The more the both lines of the channel got tested (bounced off) , the stronger the channel
- The wider the channel, the stronger the explanatory power of the channel
- As soon as an asset substantially falls through the lower line of the channel, it is a strong indication to sell the asset