The Commodity Channel Index (CCI) was developed by Donald Lambert designed to identify cyclical turns in commodities. The idea behind this indicator is that the products (or stocks or bonds) move in cycles, with highs and lows coming at periodic intervals. Lambert recommended using 1 / 3 of a complete cycle (low to high or low to high) as a schedule for the ICC. (Note: Determination of cycle length is independent of the ICC.) If the cycle runs 60 days (at least every 60 days), then 20-day CCI would be recommended. For the purposes of this example, a 20-day ICC is used.
For purposes of scale, Lambert set the constant at 015 to ensure that approximately 70 to 80 percent of CCI values are between -100 and +100. The CCI fluctuates below and above zero. The percentage of CCI values that are between 100 and -100 on the number of periods used. A shorter CCI will be more volatile with a smaller percentage of the values between 100 and -100.By contrast, the periods used to calculate the ICC, the largest percentage of the values between 100 and -100.
Lambert's trading guidelines for the CCI focused on movements above 100 and below -100 to generate buy and sell signals. Because about 70 to 80 percent of CCI values are between 100 and -100, a buy or sell signal will be in force only 20 to 30 percent of the time. When the CCI moves above 100 is considered a guarantee that should enter into a strong uptrend and a buy signal is given. The position must be closed when the CCI moves back below 100. When the CCI moves below -100, security is considered in a strong downtrend and a sell signal is given. The position must be closed when the CCI moves back above -100.
Since Lambert's original guidelines, traders have also found the CCI value for the identification of investments. The CCI is a versatile indicator capable of producing a wide range of buy and sell signals.
ICC can be used to identify overbought and oversold levels. A security is considered oversold when the CCI falls below -100 and overbought when it exceeds 100. Oversold levels, a buy signal could be given when the CCI moves back above -100. From overbought levels, a sell signal when the CCI could be turned under 100.
As with most divergences, oscillators can also be useful to increase the strength of signals. A positive divergence below -100 would increase the strength of a signal based on a move back above -100. A negative divergence above 100 will increase the robustness of a signal based on a move back below 100.
It breaks the trend line can be used to generate signals. Trend lines can be drawn connecting the peaks and valleys. Oversold levels, an advance above -100 and evasion of the trend line can be considered bullish. From overbought levels, a drop below 100 and a trend line break could be considered low.
Traders and investors use the CCI to help identify investment prices, price extremes and trend strength. As with most indicators, the CCI should be used in combination with other aspects of technological analysis. In calculation to momentum, volume indicators and the price graph may also manipulate a technical evaluation.
