Bollinger Bands
Bollinger Bands were invented by John Bollinger. Used to confirm trading signals, normally from a Momentum Indicator, the bands indicate overbought and oversold levels relative to a moving average.
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.
Bollinger originally used a 20 day simple moving average and set the bands at 2 standard deviations, suited to intermediate cycles.
Trading Signals
Example 1
Microsoft is charted with
20 day Bollinger bands at 2 standard deviations.
Contracting bands warn that the market is about to trend: the bands first converge into a narrow neck, followed by a sharp price movement. The first breakout is often a false move, preceding a strong trend in the opposite direction. A contracting range [C] is evident in June 1998: the bands converge to a width of $2, followed by a breakout in July to a new high.
A move that starts at one band normally carries through to the other, in a ranging market.
A move outside the band indicates that the trend is strong and likely to continue - unless price quickly reverses. Note the quick reversal [QR] in early August.
A trend that hugs one band signals that the trend is strong and likely to continue. Wait for divergence on a Momentum Indicator to signal the end of a trend.
Example 2
Microsoft Corporation:
20 day Bollinger bands at 2 standard deviations
and 
10 day
Rate of Change.
- Go short [S] - bearish divergence on ROC.
- Contracting Bollinger Bands [C] warn of increased volatility. This begins with a false rally (note the ROC triple divergence) followed by a sharp fall.
- Go long [L] - price hugs the lower band, followed by a bullish divergence on ROC.
- Go short [S] - price hugs the upper band, followed by a bearish divergence on ROC.
Setup
The default settings for Bollinger bands are 2.0 standard deviations around a 20 day exponential moving average. Edit Indicator Settings to change the standard settings.
See Indicator Panel for directions on how to set up an indicator.
|
