What is the Commodity Channel Index - CCI
The Commodity Channel Index (CCI) is a momentum-based technical trading tool used most often to help determine when an investment vehicle is reaching a condition of being overbought or oversold. As the price of an investment moves continually in one direction, these indicators help traders to determine when institutional conviction may be changing, and a pause or pullback in the market price may be coming. This information can permit traders to take profit or add to an existing position following a price pullback.
First developed by Donald Lambert, the CCI is a stochastic oscillator that measures the change in an instrument's price relative to a pre-defined moving average (MA) of the price divided by 1.5% of a normal deviation (D) from that average. Oscillating indicators in general are technical trading tools whose calculated values move back and forth between two pre-determined levels, the top level indicating a market that is in the condition of being overbought and the bottom one indicating a market that is in the condition of being oversold.
The Commodity Channel Index is computed with the following formula:
BREAKING DOWN Commodity Channel Index - CCI
Professional and retail traders are now able to use technical trading analysis in an attempt to trade profitability. In general there are two broad families of trading indicators: trend-based and oscillating. Trend-based technical trading indicators like a moving average allow traders to capture long-term price movements. Once markets reach a new price level, they may stay there for an extended period of time. Price behavior in this market state tends to be range-bound, meaning prices are no longer trending to a new level and instead fluctuate between two specific prices.
Oscillating trading tools like the Commodity Channel Index help traders identify when markets are reaching the end of an existing trend. When markets have been in a trend state for an extended period, they can sometimes go too far or overshoot. When this happens, efficient markets tend to experience a pullback, or trade at previous prices, as the price discovery process of trading verifies the true value of the instrument. The CCI is a trading tool that provides investors with reasonable evidence to estimate pending changes in the direction of asset prices.
The CCI has seen substantial growth in popularity among technical investors; today's traders often use the indicator to determine cyclical trends in not only commodities, but also equities and currencies. The CCI, when used in conjunction with other oscillators, can be a valuable tool to identify potential peaks and valleys in the asset's price.