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What Everyone Should Know About the Donchian Channel Indicator

Donchian channel indicator turtles

The basics of trading are simple. You always aim to sell at a higher price than you buy. In that case, the Donchian channel indicator can help us a lot in trading.

Additionally, it may be interesting for you to learn about a trading indicator that is simple to understand and use, being part of a legendarily successful trading strategy. We're talking about the Turtle trading system, of course. Before we delve any deeper, let's do a quick breakdown of the Donchian channel indicator.

The Donchian Channel Formula

The indicator simply takes a user-defined number of periods and calculates the upper and lower bands. It plots two lines on the chart according to the Donchian channel formula. This straightforward formula says that:

  1. the upper line is the highest price for the last n periods;
  2. the lower line is the lowest price for the last n periods.

The default value for n is set as 20 in MetaTrader 4, but you can set it at whatever value you prefer. However, some versions of the Donchian channel indicator also plot a third line.

This centreline is simply the mean of the upper and lower values – namely, the centreline = ( n-period high + n-period low) /2

How the Donchian Indicator Works

Donchian Channels were invented by trader Richard Donchian, one of the pioneers of technical analysis. The Donchian channel plots two lines on a chart:

  1. one line is the highest high over a set period;
  2. the other line is the lowest low over a set period.

You as a trader, should decide the time frame in question, though the default period number used in the classic Donchian system is 20 days.

Admiral Donchian Indicator, Admiral Markets MT4SE Platform

Source: Admiral Donchian Indicator, Admiral Markets MT4SE Platform

Installing the Donchian Channel Indicator on MT4

Although the Donchian Channel is a well-known indicator, it's not one of the standard indicators that comes with MetaTrader 4. If you want to use the Donchian Channel on MT4, you will need to download it as a custom indicator. The reason for this is that many of Donchian channels indicators on the MT4 market might not be that accurate and some of them might slow the platform down. One of the key advantages of MetaTrader 4 is the accessibility of its programming language. The MT4 user base is large, active and includes a huge variety of custom indicators. But that can also be a disadvantage as this means there is more than one Donchian channel indicator download available and they might be totally coded in a wrong way.

If you want to enhance your trading experience even further for free, download the custom MetaTrader Supreme Edition plugin that includes a fully and professionally coded Donchian Channel indicator.

Download MT4 Supreme Edition - Forex trading platform

Downloading and Installing Donchian Indicator on MT4

Downloading the Donchian channel indicator is easy. First find the Donchian channel file you want in the MetaTrader community by clicking on the Help tab in MT4, then clicking Once you've downloaded it, find the file's location on your computer and copy it to your clipboard.

Now go into MT4 and chronologically:

  1. select File
  2. click Open Data Folder
  3. open the MQL4 folder
  4. open the Indicators folder
  5. paste the downloaded indicator file from your clipboard.

When you restart MT4, you should see the Donchian channel indicator listed in the navigator. So let's take a closer look at the indicator now.

Admiral Markets MT4 Platform, Navigator Window

Source: Admiral Markets MT4 Platform, Navigator Window

Using the Donchian Channel Indicator in MT4

Turtle Trading Strategy

Who were the Turtles and what was the strategy that earned them millions of dollars?

Two Wall Street gurus once turned a group of novices into million-dollar traders. As if that's not enough, they did it in a matter of weeks. This group of traders were known as the Turtles. If you don't already know the story, read on.

In the mid-eighties, a well-known commodity speculator Richard Dennis made a bet with his friend Bill Eckhardt. The heart of the matter was a question of nature versus nurture – whether great traders are born that way or whether they can be trained.

The bet got serious.

Serious enough that Dennis took out ads in the Wall Street Journal and the New York Times, for applicants to be a part of this grand experiment. After an initial training period of just two weeks in Dennis' methods, applicants were let loose with real money. After a month's trial period, the best Turtles were given upwards of $1 million USD to trade with.

If that sounds a little crazy... hang on, because there's more.

The most successful Turtle was just 19 years old and was given $2 million USD, which he turned into more than $30 million USD profit. As it turns out, the trading rules they used were actually fairly simple.

In essence, they used what is called a Donchian Trend system. And yes, you guessed it – at the heart of that system is the Donchian channel indicator.

The Turtles used two breakout variants, or "systems". The first system (System One) used a 20-day price breakout for entry. However, the entry was filtered by a rule that was designed to increase the odds of catching a big trend, which states that a trading signal should be ignored if the last signal was profitable.

But this filter rule had a built-in problem. What if the Turtles skipped the entry breakout and that skipped breakout was actually the best possible early entry? What if that was a beginning of a big and profitable trend that spanned up or down by a huge extent?

If the Turtles skipped a System One 20-day breakout and the market kept trending, they needed to use something to get back into the market. That's where System Two 55-day kicks in. The System Two breakout acted as a fail-safe. That is how the Turtles kept from missing big trends that were filtered out.

The strategy using their System Two is pretty much simple:

Buy a 55-day breakout if you are not already in the market and short a 55-day breakout if you are not in the market.

The strategy using System One is slightly different. Buy a 20-day breakout if the last S1 signal was a loss while go short a 20-day breakout if the last S1 signal was a loss.

The Turtles calculated the stop-loss for all trades using the Average True Range of the last 30 days, a value which they called N. The initial stop-loss was always ATR(30) * 2, or, in their words, two volatility units.

Additionally, the Turtles managed to compound their profits back into winning trades to maximise their winnings, commonly known as pyramiding. They could pyramid a maximum of four trades separated from each other by 1/2 volatility unit.

The Exit Strategy

The Turtles usually exited their trades using breakouts in the opposite direction, which allowed them to ride very long trends. The exit strategy used in their System Two is as follows:

  1. Exit long positions if/when the price touches a 20-day low;
  2. Close shorts positions if/when the price touches a 20-day high.

The exit strategy using System One used a slightly different methodology:

  1. Close long positions if/when the price touches 10-day low,
  2. Close short positions if/when the price touches a 10-day high.

The Turtle Strategy Money Management

Turtles used the 2% initial risk for all trades. However, slightly aggressive pyramiding of more and more units had its downside. If no big trend materialised, the little losses from false breakouts would eat away even faster at the Turtles' limited capital.

How did Eckhardt teach the Turtles to handle losing streaks and protect capital? They cut back their unit sizes dramatically. When markets turned around, this preventive behaviour of reducing units increased the likelihood of a quick recovery, getting back to making big money again.

The rules were simple back then. For every 10 per cent in account drawdown, the Turtles cut their trading unit risk by 20 per cent. This of course applies to bigger numbers. The unit risk would be decreased by 80% with a 40% drawdown.

The Example of Turtle Trading Strategy

GBP/USD Daily Chart, Admiral Markets MT4SE Platform, Mar 2016-Aug 2017

Source: GBP/USD Daily Chart, Admiral Markets MT4SE Platform, Mar 2016-Aug 2017

Above, you can see a daily GBP/USD chart in MT4, with the Donchian channel custom indicator applied several times. To set up the Turtle system chart, apply the Admiral Markets Donchian channel indicator three times. We used the Turtle trading rules with these settings. You can change the colours and the line width to your preference.

Custom Indicator - Admiral Donchain MT4SE Platform

Source: Admiral Donchian Indicator, Admiral Markets MT4SE Platform

Admiral Donchian Indicator, Admiral Markets MT4SE Platform Inputs

Source: Admiral Donchian Indicator, Admiral Markets MT4SE Platform

Admiral Donchian Indicator, Admiral Markets MT4SE Platform 10 bars

Source: Admiral Donchian Indicator, Admiral Markets MT4SE Platform

Notice how the price breaks out above and below the Donchian channels in various places?

As noted earlier, the Donchian channels show the highest high with the lowest low for your specified time. When the price breaks through the channels, we are seeing new highs or new lows being set. This is an indication of a possible start of a new trend.

For Turtle Trading, on MT4 we use following rules:

Set up a daily chart. Wait for the price to exceed the high or low price of the past 20 periods (Donchian Channel 20). Open a long or short based on the breakout. The arrows show possible entries.

GBP/USD Daily Chart, Admiral Markets MT4SE Platform, Mar 2016-Aug 2017

Source: GBP/USD Daily Chart, Admiral Markets MT4SE Platform, Mar 2016-Aug 2017

If the previous 20-bar breakout resulted in a profitable trade, the new breakout would be ignored. If you ignore a 20-bar breakout, you might be at the risk of missing a big trend, should the price continue to move in the direction of the breakout. That is when the above-mentioned System Two might become useful. If the price exceeds the 55-bar high/low you open a long/short position depending on the breakout direction respectively. In the case you didn't open a trade at the 20-bar breakout. Every 55-bar breakout is taken, whether or not the previous one was a winner.

GBP/JPY Daily Chart, Admiral Markets MT4SE Platform, May 2016-Sep 2017 55

Source: GBP/JPY Daily Chart, Admiral Markets MT4SE Platform, May 2016-Sep 2017

Using MT4SE to Improve the Turtle Channel Indicator

In order to use proper money management described at the beginning of the article, traders might add a few additional indicators:

  1. The ATR (Average True Range), set on 20 period
  2. Admiral Pivot indicator

The ATR (20) is used for the exit strategy. Have in mind that exits can be far from the entry price, so the initial stop-loss is placed at 2 x ATR 20 for both systems.

For example, if the ATR is 101 pips, the initial stop-loss would be placed 202 pips from the entry price, and then manually updated once the 10 or 20-bar low/high is lower/higher than the initial stop.

The Admiral Pivot indicator could be set on monthly if you are trading the Daily time frame and it can help with exits. Admiral Pivot uses standard price information, such as high, low and close, and uses it to project possible support and resistance levels, but also much more allowing you to customise different time frames used for calculation.

GBP/JPY Daily Chart, Admiral Markets MT4SE Platform, Aug 2016-Sep 2017

Source: GBP/JPY Daily Chart, Admiral Markets MT4SE Platform, Aug 2016-Sep 2017

Have in mind that the Admiral Donchian is also available on MT5SE trading platform.

Source: USD/JPY Daily Chart, Admiral Markets MT5SE Platform, Sep 2017

Last Words on the Donchian Channels

We now know that the Donchian channel indicator is a simple but effective indicator that plots the highest high and the lowest low over a set period of time. It is useful for identifying price breakouts and is used in some trend-following systems.

The Donchian channel indicator is available in numerous versions for MT4 and produces false signals that can be minimised with filters. Markets have changed a lot over the years, so even the Turtle strategy needs some serious modifications. Additionally, the Donchian channels can be used in many different ways, so feel free to experiment on a risk and cost-free demo account before opening a high-risk, high-reward live account.

To see how our award-winning analyst Nenad Kerkez also known as Tarantula trades on Live Account, sign up for free live trading webinars!

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