Imagine being able to get into a trade before a big momentum move takes place. This seems difficult to do, but there is a setup that can help you do this. The setup uses Bollinger Bands (20,2), the Keltner Channel (20,1.5) and the 12 period Momentum Oscillator to predict a momentum move. This setup, called “The Squeeze”, is described in chapter 10 of ‘Mastering the Trade‘ by John Carter.

The Setup

When Bollinger Bands and the Keltner Chanel are narrow, it indicates a period of rest or consolidation. Usually, the Keltner Channel lies within the Bollinger Bands, but when the Bollinger Bands are within the Keltner Channel, it indicates a period of extreme consolidation. When the Bollinger Bands breakout of the Keltner Channel, it usually signals a powerful move is about to take place. The direction of the move depends on the direction of the Momentum Oscillator. If the Momentum Oscillator is above zero, then the breakout is a long signal. If the Oscillator is below zero, then it’s a short signal. It’s that easy.

Let’s look at a chart which shows the Bollinger Bands within the Keltner Channel.

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Instead of watching the Bollinger Bands and Keltner Channel, John Carter has developed a custom indicator called the TTM Squeeze Indicator. It displays green and red dots along the zero line of the Momentum Oscillator. When the dots turn red, it means that the Bollinger Bands are inside of the Keltner Channel, or in a ’squeeze’. The dots turn green when the Bollinger Bands breakout of the Keltner Channel and triggers a buy or sell signal, depending on the direction of the Momentum Oscillator.

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I like to use this indicator in conjunction with chart patterns. Oftentimes, when the signal fires off, the stock is also breaking out of a clean chart pattern. These can lead to very powerful moves.

Here’s an example:

I noticed that CLF is moving higher towards a resistance level. I also noticed that the Bollinger Bands are very close to the Keltner Channel. With some rest, this could enter a squeeze. A chart of CLF is posted in the Momentum-Trader Report on 3/26/08, recommended as a buy when it breaks into new highs.

The stock rests here and enters the squeeze, with the Bollinger Bands inside the Keltner Channel and the Momentum Oscillator above zero. It also forms a bullish double bottom pattern. There are all indications that a powerful move higher is very likely.

On 4/01/08, the stock breaks resistance on heavy volume.

Although the stock closes below the entry point, the Bollinger Bands have also broken out of the Keltner Channel. This indicates that the stock is on its way for a huge move, and that’s exactly what it does. On 4/18/08, the stock is up $35.31 from the entry price first posted here. That’s a gain of 27.59% in just 14 trading days!

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This is a powerful technique that you can use by simply watching the Bollinger Bands, Keltner Channel and Momentum Oscillator couples with chart patterns. It’s much easier though to use a custom made indicator to show the exact breakout. There are a couple of options:

1. You can purchase this indicator at John Carters’ site by clicking here. The indicator is called the TTM Squeeze Indicator and can be used with Tradestation, eSignal and Sierra Charts.

2. If you use Quotetracker, and are a bit computer savvy, you can setup the indicator yourself at no cost. The instructions can be found here.

For more information on this indicator and its application, get a copy of ‘Mastering the Trade‘ by John Carter.

Good luck and good trading!