What is Bollinger Band?
Bollinger Band is constructed by two bands surroundings a 20 simple moving average. They expand and contract based on the standard deviation of the moving average. Bollinger Band uses two standard deviations on each side of the moving average enabling 95% of the data to fall between the two bands. It was created by John Bollinger, as shown in figure (1)
What is the standard deviation?
It is a statistical concept that shows the dispersion of the prices around a certain mean.it measures the volatility, which is a risk. Bollinger Band is a volatility indicator. The higher the volatility, the higher value of the standard deviation. Bollinger Band expands when standard deviation rises and contracts when with low standard deviation.
How do prices move in Bollinger Band in an uptrend?
During a Strong uptrend, prices will move between the upper band and the moving average. Moving average usually acts as a dynamic support level, as shown in figure (2)
How to trade using BB in an uptrend?
1- Buy signal is triggered when the price breakout the upper boundary, as shown in figure (3)
2- Buy signal is triggered when the price bounces up around the 20 SMA, as shown in figure (4)
3- Buy signal is triggered when prices bounce up to around the lower band for the first time during the uptrend, as shown in figure (5)
How do prices move in Bollinger Band in a downtrend?
During a Strong downtrend, prices will move between the lower band and the moving average. Moving average usually acts as a dynamic resistance level, as shown in figure (6)
How to trade using BB in a downtrend?
1- A sell signal during a strong trend is triggered when the price breakdown the lower boundary, as shown in figure (7)
2- Sell signal during a strong trend is triggered when the price bounces down around the 20 SMA, as shown in figure (8)
3- Sell Signal during a normal trend is triggered when the price bounce down around the upper boundary, as shown in figure (9)
How does the price move in sideways in BB?
During a sideways market, there will be an equilibrium between buyers and sellers so that prices will move between the upper band and lower band. The sell signal is triggered when the price bounces down from the upper band, and the buy signal is triggered when the price bounces up from the lower band, as shown in figure (10)
Bollinger Band is a volatility indicator. It expands when volatility increases and contracts when volatility decreases. When volatility goes down a lot, the band is squeezed, and usually, this squeeze in volatility is followed by volatility expansion and large price movement. It is very difficult able to determine if the expansion will be to the upside or to the downside during the squeeze as shown in figure (11)
How to use Volatility squeeze in trading?
When volatility squeezed is identified using the breakout of the upper band as buying signal, and if breakdown from the lower band occurs, it is a selling signal, as shown in figures (12) and figure (13)
Bollinger Band with indicator (BBW)
It is an oscillator created by John Bollinger. It measures the distance between the upper and lower band, so it is a volatility indicator. traders use the Bollinger band indicator to identify the volatility squeeze when it is not easily identified by human eyes. When BBW indicator moves around 0.01 or 0.02, that means there is a volatility squeeze, as shown in figure (14) and figure (15)
Mean Reversion Strategy using Bollinger Band
When prices move in, an uptrend usually peaks form around the upper band. When the price forms a higher peak that failed to reach the upper band, meaning buying volatility decreases, and downward correction is very likely. When prices move in a downtrend, usually troughs form around the lower band. When the price forms a lower trough, that trough failed to reach the lower band, which mean selling volatility decreases, and upward correction is very likely, as shown in figure (16)
Bollinger Band Percentage indicator
It is an oscillator that measures the distance between the closing price to the upper band or the lower band. It is a volatility indicator, so when the price makes a new high and the indicator makes a lower low, that is a negative divergence. When prices make a lower low, and the indicator makes a higher low, it is a positive divergence. It is a volatility indicator, as shown in figure (17)
How to trade mean reversion Strategy using Bollinger Band
When positive divergence is identified trader should use any candlestick reversal pattern for a buy signal with the first target around the 20 simple moving average and the second target around the upper band and stop loss below the candlestick formation. When negative divergence is identified, traders should use any candlestick reversal pattern for a sell signal with the first target around the 20 simple moving average and the second target around the lower band and stop-loss above the candlestick formation, as shown in figure (18)
Bollinger Band is a very useful volatility indicator that could be used for trend following traders and generate a signal with the existing trend and mean reversion traders when the current trend shows weak volatility, so adding this indicator to the trader arsenal could be very useful
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