# Technical Analysis Part III-Section IV: Commodity Channel Index (CCI)

Section IV: Commodity Channel Index (CCI)

The CCI measures the difference between the last typical price [(high + low + close)/3] and the average of the means over a chosen period of time. The result is then compared to the average difference over a chosen period of time and multiplied by a factor.
Remember it is not important to understand the formula, what is important to understand is the CCI behavior over different scenarios and how we could use it in order to get better results.
About 80% of the time the CCI stays between the +100 and - 100 values (varies depending on the number of periods chosen). A move above or below this levels indicates a strong move.

Usage of CCI

Usage No 1 - As almost all oscillators, it indicates overbought/oversold conditionsWhen the CCI reaches levels above +100 (overbought) or below -100 (oversold) and crosses back to the neutral zone (between +100 and - 100) a signal is given.

[Chart 11]
In this case we used a CCI of 50 periods: CCI(50). We need to remember that overbought and oversold conditions should only be applied in direction of the trend (when the market is trending.) For instance, we could use an EMA to determine the trend, if the market is in an uptrend, then we only take the oversold signals and vice versa. Also, remember the overbought and oversold signals are triggered when the market goes back to the neutral territory (between -100 and +100 in the CCI).

Usage No 2
Extreme levels. This signal was the main purpose of Lambert’s CCI, as explained before, the CCI stays in neutral territory (+/-100) 80% of the time so eventual breaks of these levels could indicate a strong move in the same direction. A move above +100 is a buy signal and a move below -100 is a short signal.
[Chart 12]
We got around three signals in this chart. Two of them are long and one to go short. How could we have avoided the last signal?

Usage No 3
Divergence. When the price reaches new highs and the CCI fails to do the same , the CCI gives a short signal, the same is also true when the indicator reaches new highs and the price fails to do so. It is also utilized for bear markets.
Divergences indicate that although the trend is still intact, it is not as strong as it was before. A possible short-term reversal might be ahead.
[Chart 13]
In the chart above the CCI fails to make a peak similar to that created by the market indicating a possible retracement, reversal or consolidation period.
Usage No 4 - Trendline breaks. Like basic trendline breakouts, the CCI also generates peaks and bottoms. When two or more successive peaks or bottoms are formed by the indicator they could be connected to form a trendline. If the indicator reading breaks such trendline, it signals a trade in direction of the break out.
[Chart 14]
At the chart above the CCI trendline break is clearly seen. These types of signals sometimes are irrelevant as what we really care about are “market levels” not “indicator levels”.

Combination of CCI Signals
Probably the best combination for these signals could be the following:
[Chart 15]
When trading the extreme levels of CCI it is also advised to trade only those signals that are in the direction of the prevailing trend. Every yellow triangle indicates a valid long or short signal, red triangles indicate false signals (and are to be ignored). The rule is, take only signals in direction of the trend measured by the position of the market in relation to the EMA.
In the first triangle the CCI reached extreme levels but the market was just below the MA invalidating the signal. This one would have been profitable but we need to be sure the market is ready to reverse, so we need to see more movement in the suggested direction. The second red triangle was a short signal when the market is clearly up trending. All other signals are valid.