Commodity Channel Index

Description:

The Commodity Channel Index (CCI), which is best used with contracts that display cyclical or seasonal characteristics, is formulated to detect the beginning and ending of these cycles by incorporating a moving average together with a divisor which reflects both possible and actual trading ranges. The final index measures the deviation from normal, which indicates major changes in market trend.

Conventional Analysis:

The CCI is designed so that 70% - 80% of all price fluctuations fall between +100 and -100. When the CCI exceeds +100, you establish a long position; when it falls below -100, you go short. At what point above +100 you go long, or below -100 you go short, is your decision based on particular market analysis. For example, you may decide that -125 suggests going short, while a rise to -75 suggests liquidating a short position.

Note: Many traders use this indicator in the exact opposite way. They use it as an overbought/oversold indicator with +100 or greater indicating that the market is overbought, and -100 or less indicating that the market is oversold.

Additional Analysis:

CCI often misses the early part of a new move because of the large amount of time spent out of the market in the center neutral region (between +100 and -100). Interpreting signals when CCI crosses zero, rather than waiting for CCI to cross out of the neutral region can often help overcome this. For example, CCI crossing zero from negative territory to positive territory would be considered a bullish signal.
Similarly, CCI moving from positive to negative territory would be considered a bearish signal. In addition, it may be advantageous to exit positions before CCI actually crosses zero. Using one method, early exit signals can be interpreted when CCI reverses direction for 2 or more bars.


Additional References:

Lambert, Donald R. "Commodities Channel Index: Tools for Trading Cyclic Trends," Technical Analysis of Stocks and Commodities magazine. July/August, 1983.