Linear regression method illustrated with EUR/USD

Linear regression

Calculate and draw

As a typical trend line, the linear regression line is easy to calculate and draw on the price chart. A linear squares formula is used for calculation: Y=a+b*X. Once a specific time-frame is chosen, the sum of the squared vertical deviations between the closing prices and the trend line is minimized on this time-frame. Of course, there is a special tool designed to calculate and draw the trend and regression lines independently. You only need to enter the time-frame you prefer. If you pay attention to the price movement with respect to the linear regression line, you'll notice that the price tends to cross constantly the line, moving upwards and downwards. If you draw 2 lines through peaks and troughs of the price line, all price fluctuations will be located within this channel.

Euro and dollar within the linear regression channel.

Have a look at the EUR/USD chart. We've drawn a linear regression channel including all price fluctuations.


Linear regression line and other tools of the trader

Have you ever heard about Elliott waves? If not, I recommend that you familiarize yourself with the subject since the analysis of Elliott waves is the best companion of the linear regression line when forecasting market changes. You only need to plot the linear regression line. Its beginning coincides with the beginning of the first wave whereas its end coincides with the end of the third wave. Through the end of the second wave, draw a line parallel to the regression line. According to the strategy, the fourth wave will end near this parallel line.

For those who need more details

This article isn't aimed at providing in-depth analysis of the linear regression method. It's just for you to decide whether or not this method suits you. Still, if you wish to delve deeper into the matter, I invite you to get acquainted with dedicated sources. For instance, the method is examined from the scientific point of view here. Linear regression belongs to the field of econometrics, so there's plenty of information on this subject. I can only wish you good luck in mastering the art of trading.

See you soon!