Keltner Channel Oscillator Mean Reversal Forex Trading Strategy for MT5

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Keltner Channel Oscillator Mean Reversal Forex Trading Strategy for MT5 - Buy Trade

Mean reversals are one of the most basic types of trading strategies that traders use to profit from the forex market. However, identifying the peaks and bottoms of a price swing can often be too daunting for new traders. Some technical indicators such as oscillators may help as it provides traders an objective basis for identifying oversold and overbought markets which is a prerequisite for a mean reversal.

Stochastic Oscillator

The Stochastic Oscillator is one of the most basic indicators that is available for traders. In fact, this is one of the first few indicators which new traders are usually taught of when they start learning about trading. However, even though it is a basic indicator, it is still a very effective technical indicator.

The Stochastic Oscillator is a momentum indicator which presents the likely direction of the market by plotting an oscillator. It does so by comparing the closing price of a tradeable instrument with its average historical price range. It then plots two lines based on its underlying formula. The values of the lines that it plots oscillate within a fixed range of 0 to 100. Values above 80 are considered overbought, while values below 20 are considered oversold. Most traders would agree that both extremes have the likelihood of causing a momentum reversal.

Momentum direction can also be identified based on how the two oscillator lines interact. Momentum is considered bullish whenever the faster oscillator line is above the slower oscillator line. On the other hand, momentum is considered bearish whenever the faster oscillator line is below the slower oscillator line. Crossovers that occur on areas considered as oversold or overbought are considered high probability reversal signals.

Stochastic Oscillator

Keltner Channel Oscillator

The Keltner Channel Oscillator is a custom technical indicator which is derived from the Keltner Channel.

The original Keltner Channel is a band type of indicator which identifies volatility and trend using an Exponential Moving Average (EMA) and Average True Range (ATR) values. It uses a 20-bar EMA to calculate for the average price and plots it as its middle line. It then plots two lines displaced above and below the 20 EMA line by subtracting and adding the ATR value.

The Keltner Channel Oscillator is based on the same concept. However, instead of plotting the values on the price chart, it creates its own indicator window and presents volatility and trend as an oscillator. It plots a line which oscillates around a midline, which is zero. This represents the difference between the 20 EMA and the closing price of each bar. It also plots a pair of lines which form a channel around zero. These lines are basically a multiple of the ATR presented as positive and negative values.

Keltner Channel Oscillator

The indicator also shades the area between zero and the upper or lower lines whenever the main oscillator line breaches the range of its channel based on the ATR. This indicates an oversold or overbought market, both of which are prime scenarios for a possible mean reversal.

Trading Strategy Concept

Keltner Channel Oscillator Mean Reversal Forex Trading Strategy for MT5 is a mean reversal trading strategy which identifies overbought and oversold market conditions based on the confluences between the Stochastic Oscillator and the Keltner Channel Oscillator.

The Stochastic Oscillator is widely used and accepted as an indicator which identifies oversold and overbought markets. However, the signals that it identifies are mostly on the short-term horizon. The Keltner Channel Oscillator on the other hand presents oversold and overbought markets based on longer-term horizon. Confluences between the two indicators significantly increases the likelihood of a strong mean reversal coming from an oversold or overbought market.

On the Stochastic Oscillator, traders would simply identify extreme price conditions based on whether the oscillator lines are breaching the 20 to 80 range. Reversals are identified as the two lines crossover and start to cross back within the 20 to 80 range.

The Keltner Channel Oscillator identifies price extremes based on its oscillator line breaching the range formed by the ATR channel. Mean reversal signals are identified based on the oscillator line crossing back within the area of the channel.

Buy Trade Setup

Entry

  • The Stochastic Oscillator lines should drop below 20.
  • The Keltner Channel Oscillator line should drop below the lower line of the ATR range.
  • The faster Stochastic Oscillator line should cross above the slower line and move towards the area above 20.
  • The Keltner Channel Oscillator line should cross above the lower line of the ATR range.
  • Open a buy order on the confluence of these signals.

Stop Loss

  • Set the stop loss below the swing low prior to the entry candle.

Exit

  • Close the trade as soon as price action shows signs of a possible bearish reversal.

Keltner Channel Oscillator Mean Reversal Forex Trading Strategy for MT5 - Buy Trade

Sell Trade Setup

Entry

  • The Stochastic Oscillator lines should breach above 80.
  • The Keltner Channel Oscillator line should breach above the upper line of the ATR range.
  • The faster Stochastic Oscillator line should cross below the slower line and move towards the area below 80.
  • The Keltner Channel Oscillator line should cross below the upper line of the ATR range.
  • Open a sell order on the confluence of these signals.

Stop Loss

  • Set the stop loss above the swing high prior to the entry candle.

Exit

  • Close the trade as soon as price action shows signs of a possible bullish reversal.

Keltner Channel Oscillator Mean Reversal Forex Trading Strategy for MT5 - Sell Trade

Conclusion

Individually these two indicators are already excellent indicators for identifying possible mean reversals coming from oversold and overbought markets. When used together, the signals produced tend to be more reliable. This trading strategy can be a very effective mean reversal trading strategy because of this confluence. The price swings that occur after the signals tend to be wider which allows for higher yields per trade.

Traders using this strategy should also learn how to read the market using price action and candlestick patterns as this could also provide an insight whether the market is about to reverse or not.

When used properly, these confluences can help traders earn profits from the market as price tends to swing to the opposite direction right after a price extreme.

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