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Donchian channel is a breakout trading indicator named after Richard Donchian , who was a pioneer in breakout trading methods and trend following.

The basic idea behind the Donchian channel is to buy when prices move above the highest price level of proceeding n number of days.

Table of Contents

• Formula for Donchian Channel 
• Donchian channel Breakout System
• Donchian Channel Trend Following System© 
  • System Setup
  • Long Entry
  • Short Entry
  • Cover Long
  • Cover Short
• Plotting Donchian Channel in Python  
• Bollinger Bands Vs Donchian Channels 
  • Conclusion
• Frequently Asked Questions

Donchian system trading is a type of mechanical trading setup that involves following a set of predefined rules to enter and exit trades – a trading style popularized by legendary traders Richard Denis and Eckhardt.

Formula for Donchian Channel

Upper Channel =N period Highest High

Middle Line=(Upper Channel + Lower Channel)/2

Lower Channel=N period lowest low

N period refers to time frame of consideration it can be minutes, hours, days,  week or months

Donchian channel Breakout System

Mr. Richard Donchain was among the first trend traders of financial markets, in his own words about trend following –

“From a period of dullness and inactivity, watch for and prepare to follow a move in the direction in which volume increases. Limit losses and ride profits, irrespective of all other rules. Light commitments are advisable when market position is not certain. Clearly defined moves are signaled frequently enough to make life interesting, and concentration on these moves will prevent unprofitable whip-sawing.”

-Richard Donchian

The Donchian channel breakout system generates a buy signal when the weekly closing price exceeds the highest price in the previous four weeks. A sell signal is generated when the weekly closing price falls below the lowest price in the previous four weeks.

Some traders nowadays use a 52 days period breakout which is also a very good time setting for donchian channel breakout strategy especially if traded over stocks only.

The turtles from the famous turtle experiment used this type of breakout system extensively. For this system, they used two types of exits. The first was a stop loss exit that was a maximum of 2N, or two average true ranges away from the entry point.

Second type of exit was based on risk management – Because the number of contracts to trade per market was also based on N (Average True Range), the maximum stop loss was 2% of account size.

Donchian Channel Trend Following System©

Donchian channel trend following system is a copyright system of bulls arena trading, It uses donchian channels for breakout and supertrend indicator for trend following. It is a comprehensive trend trading setup that has been backtested over 3 and 5 years and is commercially available.

Complete system is not available for generic use however we will  describe the foundation and technical introduction of donchian trend following system here –

System Setup

1. Plot DC for setting of 52 period
2. Use Supertrend to ATR length of 20, factor of 2
3. Use 200 day simple moving average

Long Entry

• Initiate long position if prices cross median of donchian channel and supertrend gives long signal too, confirm prices above 200 moving average.

Short Entry

• Short entry is placed only when prices are below 200 day simple moving average entry triggers once prices cross donchian median line from above and supertrend gives short signal.

Cover Long

• If Supertrend changes its colour from green to red.

Cover Short

• If supertrend changes colour from red to green.

Plotting Donchian Channel in Python

Below code represents a DC for  “ticker”  plotted in python –

import pandas as pd

import numpy as np

import matplotlib.pyplot as plt

def calcDonchianChannels(data: pd.DataFrame, period: int):

  data[“upperDon”] = data[“High”].rolling(period).max()

  data[“lowerDon”] = data[“Low”].rolling(period).min()

  data[“midDon”] = (data[“upperDon”] + data[“lowerDon”]) / 2

  return data

// To Plot a colourful donchian channel //

colors = plt.rcParams[“axes.prop_cycle”].by_key()[“color”]

plt.figure(figsize=(12, 8))

plt.plot(data[“Close”], label=”Close”)

plt.plot(data[“upperDon”], label=”Upper”, c=colors[1])

plt.plot(data[“lowerDon”], label=”Lower”, c=colors[4])

plt.plot(data[“midDon”], label=”Mid”, c=colors[2], linestyle=”:”)

plt.fill_between(data.index, data[“upperDon”], data[“lowerDon”], alpha=0.3,

                 color=colors[1])

plt.xlabel(“Date”)

plt.ylabel(“Price ($)”)

plt.title(f”Donchian Channels for {ticker}”)

plt.xticks(rotation=45)

plt.legend()

plt.show()

Bollinger Bands Vs Donchian Channels

Conclusion

There are other bands and envelopes used by traders in stock markets, but what distinguishes Donchian channels from other indicators is that it is purely based on price and responds directly to price movement. Another thing I like about this indicator is that it represents the basic philosophy behind trend following – “buy the strength and sell the weakness.”

To use DC with other price action trading methods, traders must work their way of getting a sweet spot for the lookback period , since it is an important consideration it should be well adjusted with timeframe of trading.

Here’s a quick reference to the lookback period and ATR adjusted to the trading timeframe –

Frequently Asked Questions