Choppiness index is a volatility kind of trend indicator.
Being a volatility trend indicator, Choppiness index indicator was created by Bill Dreiss who was an Australian commodity trader with the main objective of helping traders to know whether the market is trending or consolidating.
According to Bill Dreiss, Choppiness index ranges between 0 to 100 thus is considered to be similar to Fibonacci range numbers. The similarity comes about for using two Fibonacci ranges numbers of 38.2 and 61.8 to indicate whether the market is trending or consolidating. To consolidate means the market is neither moving upwards or downwards(it is moving in a sideways manner or in a choppiness manner).
The following formula is considered when deriving the values of Choppiness index ;
Choppiness index= 100* log10 {sum (average true range,n) /(max high(n)-min low(n)}/(log10(n))
Furthermore, choppiness index market direction can further be explained as follows;
Since choppiness index is based on Fibonacci range numbers of 38.2 and 61.8 it therefore follows that when the choppiness index has a value below 38.2, that will be an indication of a trending market pattern thus the trader should remain in the trending market for longer period to collect more profit because if the market has decided to move in one direction, it will trend more for longer. On the other hand,if the choppiness index has a value above 61.8 that will be an indication of a consolidating market pattern thus when the trader enters the market in a certain direction,the trader should remain in that market direction for a very short period of time to avoid losing the profit made since the market will be chopping in both direction. This is indicated in the candlesticks chart below;
From the candlesticks chart above, there are 4 points, A, B, C and D. Point A and C represents the point that is below 38.2 while point B represents the point that is above 61.8. Point D represents the choppiness index curve indicator.
At point A, the choppiness index value has fallen below 38.2 thus an indication of a trend market pattern. At that point, the market is trending downwards. This will signal the trader to remain in the downtrend market for longer period in order to collect more profit.
At point B, the choppiness index value has risen above 61.8 thus an indication of a consolidating market. This will signal the trader to remain in any market direction for a very short period of time in order to avoid losing the profit made since the market will be chopping in both directions.
At point C, the choppiness index value has fallen again below 38.2 thus an indication of a trend market pattern again. At that point, the market is trending upwards. This will signal the trader to remain in the uptrend market for longer period in order to collect more profit.
Recommendation:If you are a day trader just use 1 min,5 min,15 min and 30 min timeframe while if you are a swing trader just use 1 hour and above timeframe if you want choppiness index to work well for you
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