The basis of median channel work is rooted in Isaac Newton’s third law of motion that for every action, there is an equal and opposite reaction. A brief history of the methodology tells us that pioneers in applying these laws to the technical analysis of financial markets were Roger Babson and George Marechal.
It was Marechal who copyrighted a famous Dow forecast chart that Alan H. Andrews, the founder of Andrews’ Pitchfork, described in his original course as a "chart no government economist, no college professor has enough knowledge to even approach or courage to try to duplicate." It was a chart created in 1933 that turned out to be an accurate forecast over the next 15 years.
Most charting packages will include Andrews’ Pitchfork and calculate it for you. You simply set it at three points in the direction of a trend starting with a low or high and then the following low and high. According to Andrews, the median lines attract the price action 80% of the time. It’s really a simple method, but it is largely overlooked as just another indicator on most software packages. However, it is as powerful as it is simple, and here we will look at some of its more advanced applications.
Word of warning
Parallel warning lines are the same distance from the median line, or mid-line. The best application of the parallel warning lines is to project long-term support or resistance. On a long-term chart of crude oil, we have the classic median channel drawn from a low in 1986 to the next most important high in 1990 and then the next important bottom in 1998 (see "Oil lines," below).
As you can see, a channel formed that was close to the high in 2005 and the congestion area in 2006. The mid-line also came close to catching the exact bottom of the pullback in early 2007. Given that the channel lines did work, we can have confidence to use them again.
Just because the slope isn’t steep doesn’t make the channel lines less valuable. They turned out to be invaluable in identifying the top. The pattern went out exactly three channels, or warning lines, before it almost perfectly caught the top. At the point in time where the 147 top came in, the channel line was sitting at approximately 144. If that wasn’t enough, the original median channel helped capture the bottom of the commodity crash several months later. There was no other method that came close to this kind of accuracy.