Introduction to Bollinger Bands
- Bollinger Bands are a technical analysis tool developed in the 1980s by John Bollinger for trading stocks. The bands comprise a volatility indicator that estimates the relative high or low of a security’s price concerning previous trades.
- Volatility is measured employing standard deviation, which can change with an increase or decrease in volatility. The bands increase when there is a price rise and narrow when there is a price decrease.
- Bollinger Bands can be implemented to the trading of various securities because of their dynamic increase.
Understanding Bollinger Bands
- Bollinger Bands are composed of three lines – the upper, middle, and lower band. The middle band is a moving average; the trader chooses its parameters. The upper and lower bands are located on either side of the moving average band.
- The trader determines the number of standard deviations they need the volatility indicator placed at. The number of standard deviations determines the distance between the middle band with the upper and lower bands.
- The position of these bands presents information on how strong the trend is and the possible high and low price levels that can be anticipated in the immediate future.
Limitations Of Bollinger Bands
- Although Bollinger Bands are valuable tools for technical traders, traders should consider a few limitations before applying them. One of these limitations is that the Bollinger Bands are essentially reactive, not predictive.
- The bands will react to fluctuations in price movements, either uptrends or downtrends, but will not predict prices. Like most technical indicators, Bollinger Bands are a lagging indicator.
- The reason is that the tool is based on a simple moving average, which takes the average price of several price bars.
How Bollinger Bands Helps A Trader?
Bollinger Bands And Day Trading Uptrends
- Overall, Bollinger bands can assist a trader in concluding the increasing probabilities of an asset. Even though the asset is losing strength or reversing, Bollinger bands define it comprehensively.
- The uptrend is expected to reach the upper band frequently if it’s more powerful, and it points towards the increasing figure of the stock.
Bollinger Bands And Day Trading Downtrends
- Traders also utilise Bollinger Bands to get the idea of the assets in downtrends. For instance, it helps them determine the falling state of the assets, especially when it’s reversing from the upside trend.
- During a strong downtrend, the prices are expected to stay constant alongside the lower band. It raises the possibility of selling activities.
