The LT Regression channel makes things easier for chartists because it automatically calculates how and where the regression channel should be drawn on the chart, without any guess work. The user can also make minor modifications to the range of the channel (its start and end point).
The indicator can be used in a number of ways. In chart analysis, when the price has exceeded its upper channel deviations (e.g. when price has gone above the 2-standard deviation channel) this is an indication that the price is likely extremely overbought and over-extended. Price movements outside the 2-standard deviation channel are usually unstable and unsustainable, and they often result in failure i.e. a reversal or reversion back to the mean. Similarly, a movement of price has exceeded its lower channel deviations (e.g. when price has gone below its 2-standard deviation channel) this is an indication that the price is likely extremely oversold and over-extended. As mentioned, price movements outside the 2-standard deviation channel are typically unstable and unsustainable, and can result in a reversion back to the mean.
The chartist can use the indicator, therefore, as a measurement of how overbought or oversold – or how over-extended or “over-stretched” – the price is relative to its mean average (the centre line). The further away the price is from its mean average (for example, when price has exceeded beyond its 2, 3 or 4 standard deviation channel) the more likely and probable it is for the price to snap back to its average. The chartist should ideally wait for a confirmation of a reversal (e.g. by breaking near support or resistance) to increase the odds of a reversal. For example, if price has exceeded above its upper 2 standard deviation channel, usually when price closes back inside the channel (i.e. below its upper 2-standard deviation channel) this can increase the odds of a pullback or reversion to the mean. The assumption is that we are expecting price to revert towards the centre line level (the mean). The same applies in reverse when price has exceeded below its lower 2 deviation channel (a close above the lower channel could increase the odds of a pullback to the mean).
It should be noted that the probability of price becoming extremely overbought and overstretched increases when it occurs in the direction of the major trend. For example: in a and an uptrend, when price becomes parabolic and reaches or exceeds its upper deviation channel (e.g. the upper 2, 3 or 4 standard deviation channel), this type of price action has a higher probability of being extremely overbought and overstretched. As a result, because these type of parabolic conditions can be unstable and unsustainable, they are more likely to result in a pullback, drop or reversion to the mean. The opposite can also be true in a or downtrend: when a price drop reaches or exceeds its lower deviation channel (e.g. the lower 2, 3, or 4 standard deviation channel), these market conditions are often unstable, oversold and overstretched – thus they are more likely to result in a bounce, reversal, corrective rally or a reversion to the mean.
The second use of the regression channel is as a trend following tool. As long as the price maintains itself within parameters of the regression channel, the odds are in favour of the trend continuing in its original direction. For example, if price has been going up (e.g. in an uptrend) and is inside a rising regression channel, there is a higher probability that the uptrend is likely to continue within the parameters and boundaries of the . If price were to pullback to the lower deviation channel (the lower band) and bounce off this level, this is a likely indication that the uptrend could continue higher. A sustained break below this could mean that the trend is likely reversing (a trend reversal) or that the price is getting ready to start a correction (a retracement to the original trend). The same principle applies in reverse for price in a downtrend: as long as price remains within the boundaries of the , the downtrend is likely to continue. If price were to rally to the upper channel and then drop back within the channel, this is a likely indication that the downtrend could likely continue. A sustained break above the could be an indication of either a trend reversal or a correction in price.
The Indicator can be used in either an Auto mode or Manual Calculation mode. In the Auto mode, the Indicator utilises an oscillator to determine the “Start Bar” and “End Bar” for the analysis. In the Manual Calculation mode, a chartist can enter their own Start and End Bars. The “Start Bar” is the Bar furthest to the left (past) of the chart and “End Bar” is the nearest to the current Bar or right of the chart.
Deviations are based upon recognised Standard Deviation mathematical techniques, but are modified by factors determined by recognised Linear Correlation calculations.
Further Deviations, 3 and 4, can also be displayed by selecting them in the “Inputs” section. The user can also alter or tweak the regression channel slightly by using the drop down menu in “Regression channel alternatives”. This can help in slightly changing the extent, shape or boundaries of the regression channel.
The indicator can be used on the charts of the majority of markets (e.g. stocks, indices, ETFs, currencies, cryptocurrencies, precious metals, etc.) and any timeframe, but please note that the degree of noise and randomness (and therefore false signals) increases significantly on lower timeframes (as mentioned previously). Chartists should be aware of the probabilistic and uncertain nature of price action and the markets, and therefore prepare to limit and control any potential risks.
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