Bollinger Bands are widely used by technical analysts and traders across all markets, including forex. Because currency traders earn from incremental price moves. Spotting volatility and trend shifts rapidly is critical to developing a good strategy that will net profits.

Bollinger Bands Explained

These are a type of technical analysis used by traders to plot trend lines that are two standard deviations apart from a security’s simple moving average price. The purpose is to assist a trader in determining whether to enter or quit a position by detecting when an asset has been overbought or oversold. John Bollinger created the Bollinger Bands.

Bollinger Bands assist by indicating variations in volatility. It provide pretty unambiguous signals for buying and selling for usually stable ranges of a security, such as many currency pairings. This can lead to stop-outs and painful losses, thus traders should examine other criteria when initiating trades based on the Bollinger Bands.

How Does This Indication Work?

When the bands narrow during a time of low volatility, the probability of a rapid price move in either direction increases. This might be the start of a trend. Keep an eye out for a false move in the other way that reverses before the true trend begins.

When the bands diverge by an unusually high amount, volatility rises and any current trend may come to an end.

Prices have a propensity to bounce within the envelopes of the bands, touching one band then transferring to the other. These fluctuations may be used to help you discover possible profit objectives. If a price bounces off the lower band and subsequently crosses above the moving average, the higher band becomes the profit objective.

During strong trends, the price might surpass or hug a band envelope for extended periods of time. When a momentum oscillator diverges, you may want to perform a further study to see if taking extra profits is a good idea for you.

When the price breaks out of the bands, a significant trend continuation is likely. However, if prices quickly return to within the band, the indicated strength is null and void.

Formula for Bollinger Band Calculation

BOLU=MA(TP,n) +m∗σ[TP,n]

BOLD=MA(TP,n) −m∗σ[TP,n]

Where

BOLU=Upper Bollinger Band

BOLD=Lower Bollinger Band

MA=Moving average

TP (typical price) = (high + low + close) % 3

N= Number of days in smoothing period

M= Number of standard deviations

σ[TP,n]= standard deviation over last n period of TP

Bollinger Bands Have the Following Limitations

Although Bollinger Bands are useful tools for technical traders, there are a few limits to be aware of before employing them. One of these problems is that Bollinger Bands are reactive rather than predictive. The bands will react to price movement changes, either uptrends or downtrends, but they will not foretell prices. Bollinger Bands, like other technical indicators, are a lagging indicator. This is due to the tool’s usage of a simple moving average, which averages the prices of numerous price bars. Although traders may use the bands to monitor trends, they cannot use the method to anticipate prices. Developer of the Bollinger Bands, John Bollinger, proposes that traders utilize the method in conjunction with two or three non-correlated instruments that offer more immediate market indications.

Another disadvantage of Bollinger Bands is that the default settings may not be suitable for all traders. Traders must locate settings that allow them to define guidelines for individual equities in which they trade. If the chosen band parameters do not work, traders can change the settings or use a different tool entirely. The efficiency of Bollinger Bands varies per market, and traders may need to alter the parameters even if they trade the same securities over time.

Bottom Line

In summary, Bollinger Bands may be a valuable tool for traders in determining when to enter and quit a position by measuring the volatility of their position. Certain characteristics of Bollinger Bands, such as the Squeeze, are useful for forex traders, as is adding a second set of Bollinger Bands. When used appropriately, this tool can assist investors and traders in making better selections and, perhaps, profiting.

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