4 Simple Strategies to Trade Bollinger Bands
Contents
Generally one would expect the stock price to remain between the bands most of the time. A break out of the bands generally occurs when the stock price moves higher than the upper band or stock price moves lower than the lower BB driven by some event. It should be noted the breakout occurred with increased volume and was supported by an increase of On Balance Volume .
- Read the “Issues” section below for occasions when Bollinger bands tend not to provide reliable information.
- Bollinger Bands are a technical indicatordeveloped by John Bollinger.
- Most of the money to be made in the market, with minimal risk, is in the margins.
- This will make the BB indicator more sensitive to the short-term price action.
By default, the outer bands are 2 standard deviations away from the middle band . Bollinger Bands is a significantly different indicator to a VWAP. It is an intraday indicator that looks at the average price of an asset when compared the best investing books of all time to its volume. The chart above is a good indication of how Bollinger bands can be used to show reversals. When the market price of the EUR/USD pair falls outside the bands, the ‘breaking the bands’ scenario comes out.
The starter pack of Algorithmic Trading Strategies will help you create quantitative trading strategies using technical indicators which can adapt to live market conditions. In addition to these “high” and “low” relative assessments, there are other trading signals that are generated by how the price of the stock or security interacts with the bands. For example, when the stock breaks through the upper band , some traders believe this generates a buy signal.
What are the Best Time Frames for Trading with Bollinger Bands?
If you want to make money in the markets, just buy low and sell high. If you want to learn more, go study this lesson on standard deviation. The price is above the 20 period MA but RSI is showing the market is overbought.
This image shows the location of the Bollinger Band relative to the normal curve. In our examples, these are 20-day averages and a standard deviation of 2. When using the bands, this would be described as Bollinger bands . While those are the standard numbers used by traders, both can be varied within the chart software you use. Gaining knowledge of how Bollinger Bands work can really boost your trading accuracy, and hands-on experience is the best way to familiarize yourself with this indicator.
The Buying Channel
If the price is in a downtrend and continually hitting the lower band , when the price hits the upper band it could signal that a reversal has commenced. If the price declines again, it likely won’t be able to reach the lower band or the recent price low. If the price is in an uptrend, and continually hitting the upper band , when the price hits the lower band it could signal that a reversal has commenced. If the price rallies again, it likely won’t be able to reach the upper band or the recent price high. When the price is in a strong downtrend, it shouldn’t touch the upper band. When the price is in a strong uptrend it shouldn’t touch the lower band.
- The next trading day was not until December 26, which is the time when traders would enter their positions.
- It signals a trade, but then moves back in the other direction.
- Find out how you can use these two stock-picking strategies together.
- A trader can visually identify when the price of an asset is consolidating because the upper and lower bands get closer together.
In a classic M top, the first high either touches or is outside of the upper band, the price reacts by dropping close to the middle band , and the second high touches inside the upper band. The fact that the second high is within the upper band suggests that it is a lower high on a relative basis. To identify a double bottom, look for a price that has touched the lower band and wait to see where the next low occurs.
Bollinger Bands Squeeze: How to identify explosive breakout trades about to occur
During the squeeze, notice how On Balance Volume continued to move higher, which showed accumulation during the September trading range. Signs of buying pressure or accumulation increased the chances of an upside breakout. After the surge above 40, the stock again moved into exchange rate a consolidation phase as the bands narrowed and BandWidth fell back to the low end of its range. Another setup was in the making as the surge and flat consolidation formed a bull flag in July. Despite this bullish pattern, SBUX never broke the upper band or resistance.
For instance, in an uptrend, traders can maintain a long bias as long as prices are in the buy zone. A long position can be liquidated when prices fall forex education: trading explanation from the experts below the middle band or break into the sell zone. In a strong trend, the mid-line can be used as a reference point for placing trailing stops.
Using Bollinger Bands
If you have an appetite for risk, you can ride the bands to determine where to exit the position. Regarding identifying when the trend is losing steam, failure of the stock to continue to accelerate outside of the bands indicates a weakening in the strength of the stock. This would be a good time to think about scaling out of a position or getting out entirely. The middle line can represent areas of support on pullbacks when the stock is riding the bands. You could even increase your position in the stock when the price pulls back to the middle line. High and low volatility periods are quickly spotted by examining the bands’ behavior.
- SmartSearchXL can scan the entire options market looking for possible breakouts in a matter of seconds.
- It came down quite a ways as it kept losing with a series of false breakouts to the upside early in the year.
- The orange arrow in June 2016 highlights a potential exit when MSFT traded intra-day below the lower Bollinger Band.
- The most used period is 20, but it can be modified to suit a specific need.
- In this instance, the exit strategy is not so clear-cut, breakouts can run and run sometimes, or be over after just a short move, and you never know which.
- Information was hard to find in those pre-internet days, but using a basic microcomputer, John began developing his own approach.
The limitation of Bollinger Bands is that they are computed using a 20-day Moving Average, meaning that they weigh all data points as the same. Thus, a recent event is not given more weightage and can impair the indicator’s ability to correctly observe a trend. In the chart, you can see that on 6 February when the price reaches the SMA, it changes direction and reaches the lower Bollinger Band before reversing direction once again. It is at this precise moment where most traders are confident that the price will increase and sustain itself. For example, in this chart, you can see the Bollinger band squeeze in the middle, from 21 November to 12 December before breaking out.
Applying Bollinger Bands to a Volatility Indicator
Bollinger Bands are calculated at a specified number of standard deviations above and below the moving average, causing them to widen when prices are volatile and contract when prices are stable. If the upper and lower bands are 2 standard deviations, this means that about 95% of price moves that have occurred recently are CONTAINED within these bands. Whereas in a Bollinger Bands squeeze, the market doesn’t swing up and down because the price action gets really tight and the candles are overlapping one another. So it’s impossible to identify support and resistance in a Bollinger Bands squeeze. And in strong trending markets, the 20-period moving average can act as an “area of value”.
You can combine it with other indicators and methods to build better strategies than shown above. This strategy loses most of its starting capital over the time horizon and winds up under performing most other strategies. One of the issues we see is that the 20-day min might not be discriminatory enough. For example, there are times when the Band Width rises significantly (e.g. 2003, 2008, 2009) and so a 20-day minimum winds up being rather elevated.
Forex Today: Panic took over financial markets
If both BB and SO, indicates oversold at the same time previous resistance turns support at the trend line. For example, IBM closed below the lower Bollinger Band® on February 26, 2007. The strategy called for a buy on the stock the next trading day.
As a volatility indicator, Bollinger Bands tighten or broaden around the price plot on the chart. As seen in the formula above, the price range widens as the standard deviation goes up and vice versa. For example, when the volatility of a given currency pair is low, the channel narrows down.
