Forex Trading Strategies With CCI Indicator
The Commodity Channel Index, abbreviated as CCI, is an oscillator deployed to spot cyclical trends in a currency pair.
It derived its name originally as a result of its use in analyzing commodities.
Donald Lambert is said to be the man behind the Commodity Channel Index, as published in his book the “Commodities Channel Index: Tools for Trading Cyclical Trends.”
Despite the fact that the CCI will oscillate above and below the zero line, it is more of a momentum indicator, due to the absence of an upward or downward limit on its value.
Using a shorter setting will mean an increase in the number of signals and the indicator’s sensitivity.
Fig. 1.0 depicts the CCI indicator oscillating above and below the zero level.
It also shows us extreme levels of above +100 and -100, which are very critical zones for the indicator.
The terms overbought and oversold comes into the picture anytime we discuss oscillators. Oscillators basically own levels that are marked overbought and oversold.
In case of the CCI, the price of the currency pair is overbought when the indicator is seen to jump above the +100 mark.
This implies that price has jump so much so that it has strayed away from the mean price much more than usual.
It is almost certain that such a movement is untenable and price will break back to its average before long.
The CCI indicator fluctuates above and below the zero mark. When the CCI values is below the -100, price is said to be oversold.
This implies that price has dipped well below the usual deviation away from the average.
It is almost certain price will break back to its average soon since such levels are unsustainable.
Ultimately, the CCI gauges how far price will go away from an average price.
The old-style buy or sell signal is usually when price cuts through the +100 or -100. As seen on Fig. 1.0, such signals sometimes come either false or late.
The CCI is able to determine overbought and oversold conditions by gauging the relation between price and a moving average (MA), or more so, standard deviations from that average.
The real formula that represents the CCI indicator is shown below, and defines how this measurement is carried out.
CCI = (Typical Price – Simple Moving Average) / (0.015 x Mean Deviation)
The one important component that defines the CCI’s formula is knowing a time interval, which is crucial in improving the precision of the CCI.
Considering the CCI tries to forecast a cycle through the use of moving averages, the smoother the moving average is to the cycle, the more precise the average will be.
This concept holds for most oscillators.
Understanding Basic CCI Signals
The Commodity Channel Index (CCI) can function as a leading or coincident indicator.
As a leading indicator, traders can aim for overbought or oversold market conditions that may predict a mean reversion.
As a coincident indicator, traders look out for spikes above +100 as a trigger for a possible start of a bullish trend. Spikes below -100 depicts weak price action and depicts a possible start of a bearish trend.
1. New Trend
Most of the CCI movement we get our chart takes place between -100 and +100.
When the market exceeds this zones, it is usually a show of exceptional strength or weakness that can foreshadow a long-drawn-out move.
These zones can be seen as bullish or bearish filters.
As a general rule, when the CCI is positive is favors the bulls, while a negative CCI favors the bears.
Avoid taking numerous whipsaws when using a simple zero line crossover technique.
Even though, we’ll get some more lag at our entry points, needing a move above +100 for a long entry and move below -100 for a short entry minimizes whipsaws.
The CCI indicator is unable to catch the precise top or bottom of a trend, but traders can deploy it as a tool to assist in filtering out noise, thereby focusing on the larger trend.
2. Overbought/Oversold Technique
It is a bit confusing when spotting overbought and oversold levels using the CCI indicator, or any other momentum oscillator for that matter.
To begin with, CCI is a limitless oscillator. In theory, the indicator dos not offer an upside or downside limit, which mean an overbought or oversold assessment is biased.
In addition, a currency pair can continue to go higher following an overbought assessment.
Similarly, a currency pair can continue to go lower following an oversold assessment.
The state of being overbought or oversold contrasts for the commodity Channel Index.
When a trading range of ±100 is plausible, more extreme levels could be adopted for other scenarios.
The ±200 is a tougher level to attain and depicts true extreme levels better.
The volatility of the underlying forex pair affects the overbought or oversold price levels.
When divergences occur, they point to a possible reversal point due to directional momentum not confirming price.
A bullish divergence will take place when the underlying currency pair undertakes a lower low and the CCI forms a higher low.
A bearish divergence will occur when the underlying forex pair forms a higher high and the CCI forms a lower high.
You don’t have to be too excited over divergences as a perfect reversal tool, note that they can be misleading during strong trends.
A strong trend may reveal a lot of bearish divergences before a top actually takes shape. On the contrary, bullish divergences tend to occur during extended downtrends.
Confirmation are critical to any divergence technique.
While divergences reveal a change in momentum that can come before a trend reversal, confirmation point for the CCI or the activity chart should be set.
If a strong support level breaks on the price chart or CCI level break below zero, a bearish divergence should be confirmed at once.
On the other hand, a bullish divergence is confirmed when a strong resistance level gets broken or CCI level break above zero.
The chart above (Fig. 1.1) depicts the Commodity Channel Index bearish divergence for the EURUSD H1.
Price is shown to form a higher high, while the CCI indicator lower high.
Commodity Channel Index trading strategies for scalpers
To start off our Commodity Channel Index trading strategy for scalpers, we must first find the direction of the market.
We advise that you deploy the 200 period EMA, considering its ease of use.
The Exponential Moving Average indicator is added to the chart with the intent of spotting if price is aligned above or below the average.
If price is above the average, traders can assume that the trend is bullish, while seeking to get a confirmation from the CCI indicator.
If price is below the average, traders can assume that the trend is bearish, while seeking to get a confirmation from the CCI indicator.
See an example here that shows how best to deploy scalping for Commodity Channel Index indicator.
Commodity Channel Index trading strategies for day traders
Day traders can come up with a trading strategy that revolves around the Commodity Channel Index.
The trading rules are simple, where a 14-period CCI is required to move above the 100, after which we can watch out for at least one price bar closing lower.
A bullish entry is advised when a tick moves above the bull trend bar, while if the CCI indicator dips below -100 at any point, it nullifies the trading setup.
Conversely, a bearish entry is recommended when a 14-period CCI moves below -100, with at least a price bar closing above.
Other confirmation setup includes a tick forming below a bear trend bar, while if the CCI surges above 100 at any instance, the trading setup become invalid.
Here is a vivid example of how best to use the CCI for day trading.
Commodity Channel Index trading strategies for swing traders
It is good we note that the CCI is not a good standalone trading tool. Just like any other oscillator, the CCI requires to be joined with an extra trading tool.
Traders can adopt the “New Trend” trading technique as a viable option towards swing trading the CCI indicator.
We recommend that you adopt the 30-minute and 1-hour timeframes when swing trading the CCI and also combine a trend/momentum indicator.
This would offer more precision to your trades as shown in an example here.
The versatility of the CCI indicator cannot be overemphasized, the indicator is thorough when spotting overbought/oversold market ranges or trend reversals.
Upon reaching extreme levels, the indicator becomes overbought or oversold.
Such extreme levels are dependent on the features of the underlying currency pair and the CCI’s historical range.
Volatile forex pairs are expected to require greater extremes than passive currency pairs.
Threshold of zero and 100 are considered as zones that if breached can result to trend changes.
Not minding how the indicator is being put to use, it should always be deployed side-by-side with other indicators.