The Linear Regression Channel

In technical analysis of forex markets, the Linear Regression Channel is a three-line technical indicator in the shape of a channel. It is used by forex traders to identify the upper and lower bounds of an existing trend. It is also a statistical tool used to predict currency pairs trends or to determine when prices may be overvalued or undervalued. This indicator gives potential buy and sell signals based on price volatility.
It consists of three lines: linear, upper and lower. A Linear Regression Line (LRL) is a straight line that best fits the currency prices between a starting and an ending price point. A ‘best fit’ is a statistical term which means that a line is drawn where the distance between the price points and the actual LRL is the smallest. The LRL is used to identify a trend direction of a currency pair. A trend line may be seen as the line on which the equilibrium price lies. Any point above or below this line indicates wrong price evaluations by buyers or sellers. Prices Always deviate from the trend line, but they will go back towards the LRL, sooner or later. When prices are below the LRL, this is considered a bullish signal by traders. Otherwise, it is considered a bearish signal.
The Upper Channel Line (UCL) runs parallel to the LRL and is usually drawn at one to two standard deviations (a statistical dispersion indicator) above the LRL, showing the upper limit of the trend. The Lower Channel Line (LoCL) runs parallel to the LRL and is usually drawn one to two standard deviations below the LRL, showing the lower limit of the trend. Both URL and LoCL are evenly distanced from the LRL.
The default standard deviation setting used is usually 1, which statistically means 68.0% of all price movements of a currency pair find between the URL and LoRL. When the price breaks outside of the channels, buy and sell signals are generated.

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