Trading The Regression Channel
by Gilbert Raff
Every trader has had the experience of selling a stock or commodity too soon during a rapid price
reversal, only to realize in retrospect that this was a consolidation within a trend. Or just the opposite:
perhaps the trader watched profits evaporate when the "consolidation" became a downhill avalanche.
A vast array of methods exists to describe price movement, ranging from trendlines to Fourier analysis.
The ideal description of a trend would provide clear recognition of its start, trading range and
termination. The ideal tool would permit the trader to know exactly when to enter a trade, when to exit,
when to trade contrary to the trend and when a new trend had started. The ideal tool would also give a
good sense of whether price action was likely to be worth the risk of any trade at all.
While we don't expect perfection, most traditional description of trends fail miserably to measure up to
our ideals. The regression channel is a technique I've developed that provides many of these stated needs,
including the ability to predict reversals within the trend and, frequently, to project the end of a trend
weeks in advance.
To start, let us review two classic descriptions of trend. The first describes an uptrend as a sequence of
higher highs and higher lows. In Figure 1, a daily price chart of Blair Corp. (BL), an uptrend begins at
point A and ends at point B. From point B to point C, there is first non-trending action, then a lower low
at C. Presumably, trend AB is over. Figure 2 shows the same security later. Much to our chagrin, exiting
at C was a mistake.
The second classic description of trend defines it with a trendline. Figure 3 represents the uptrend defined
by the line joining lows C, D and E. At F, a new low breaks the trendline decisively. Where do we go
from here? Future price action is shown in Figure 4.