Bollinger Bands: A Trader’s Guide
Last updated
Last updated
As a trader, you are constantly seeking tools and indicators to help you make informed decisions about your trades. One such tool is the Bollinger Bands, a popular technical analysis tool that helps traders identify price trends and potential trading opportunities. In this article, we will dive deep into the world of Bollinger Bands, exploring what they are, how they work, and how you can use them to improve your trading strategies.
John Bollinger created Bollinger Bands in the 1980s. Bollinger Bands are a type of technical analysis tool that consists of three lines: a simple moving average (SMA) in the middle, an upper band that is two standard deviations above the SMA, and a lower band that is two standard deviations below the SMA. These bands move up and down as the price of the asset being analyzed moves, creating a channel that represents the upper and lower boundaries of the price range.
The Bollinger Bands work by measuring the volatility of an asset's price over a specific period. When the price of an asset is volatile, the bands widen, and when the price is stable, the bands narrow. When the price of an asset is close to the upper band, it indicates that the asset is overbought, and when it is close to the lower band, it indicates that the asset is oversold. Traders use this information to determine when to enter or exit a trade.
Let’s see a quick rundown of the Bollinger Bands and Bollinger Bands Squeeze techniques to evaluate potential breakouts. Firstly, Bollinger Bands are commonly used for analyzing the extent of the expensiveness of an asset. Firstly, if the price is at the same level or above the upper Bollinger Band, it is considered expensive, and, conversely, when it is lower than the bottom Bollinger Band, it is considered cheap. On a screenshot, see the market highlights of the BTC/USD instrument with Bollinger Bands:
It does not seem very helpful, right? It is not robust to blindly pick a long/short position because of the price condition. Here is where Bollinger Band Squeeze comes into play. The colored area between the upper and lower Bollinger Bands shows the volatility of the market - when the area is ‘thin’ or ‘squeezed’, it is in low volatility, and, when it is ‘wide’, it is in high volatility. Common sense tells that when the market entered a very thin neck, there should be the end of it since the market will not stay still. Hence, a potential price bounce is expected to happen. As in a recent case with Bitcoin, we can see that this situation actually happened: Bitcoin experienced low volatility entering a very thin spot indicated by the second blue arrow, and after that point the market exploded, leading to a 47% profit.
If the Bollinger Bands’ area is ‘squeezed’, expect a potential breakout of the price
When the market is in a downtrend, you can sell an asset near the upper Bollinger Band
When the market goes uptrend, you can buy an asset near the lower Bollinger Band
Bollinger Bands are a valuable tool in a trader's arsenal. By understanding how they work and how to use them, traders can make informed trading decisions and improve their overall trading strategies.
