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Bollinger Bands done Simple how they help me





Developed by veteran trader John Bollinger in the 1980's, the Bollinger Bands are an indicator using a moving average with trend bands of equal distance above and below the moving average. The middle of the Bollinger band is a 20 period SMA (Simple Moving Average)


The bands on each side of the middle used most often are at the 1, 2 and 4 standard deviations from the middle. These are called 1 sigma, 2 sigma and 4 sigma (shorthand for standard deviation in statistics). For clarity we call the upper bands the +1, +2 and +4 sigma and the lower bands the and -1, -2 and -4 sigma.



Most price action will occur between the +2 and -2 bands.


What do Bollinger Bands indicate?

The middle shows just what any moving average does, direction of trend and whether the current PA (price action) is above or below the average.

The bands visualize the change of volatility in the PA. When the bands are contracting, the volatility is decreasing and when they are diverging the volatility is increasing, when they are parallel the volatility has stabilized.


How to use them:

Market Direction - The middle of the Bollinger band will point in the direction of the current trend, commonly for the last 20 candles. If the bands point in the same direction the trend is strong.


Market Momentum - When the bands are diverging, price momentum is increasing in the direction of the current trend. When the bands start converging, the trend is pausing, look for a retrace.


Warning - When the bands continue to converge and roll to change direction look for a potential turn around. Another sign of a potential turn around is when the price is at the extreme of the +4 or -4 sigma.


My favorite Bollinger signals



3 Trips beyond the 2 sigma

At least one candle, or several in a row, closes beyond the 2 sigma (either side) in a strong trend. After a small pullback this happens again 2 more times, for a total of 3 trips beyond the 2 sigma, with pullbacks or pauses in between. After the 3rd trip beyond the 2 sigma there is a strong chance of a trend change or deep retrace. After the first trip beyond the 2 sigma, trade the pullback in the direction of the trend for trip 2 and 3. Stop should be outside the trend support. After trip 3 watch for indecision, a channel break or additional confirmation like RSI divergence for even stronger confirmation and trade against the trend as this will likely be a deep retrace or even a trend change. Stop should be outside the high for a short trade or low point for a long trade on the turn around.


2 sigma to 2 sigma cross

In flat or neutral price action like a box the price will often cross from one 2 sigma of the Bollinger Band to the other in a +2 to -2 movement down or -2 to +2 movement up. Watch for the typical turn around confirmation to enter the trade. Stop should be below the 2 sigma the price is moving away from. This works best in a large box.


Potential Trend Change

Price touching the +4 or -4 sigma band is a strong indication of a trend change


Dynamic Channel

When price is using bands, like the +1 sigma and +2 sigma as support and resistance acting like a dynamic channel


Targets

When the price crosses the middle of the Bollinger strongly and the bands flare the +2 sigma becomes a prime target for a fill in an uptrend. The -2 sigma is a prime target fill in a downtrend.


Summary

Confidence in a trade is a key component for consistent trading. I used to always worry in a strong trendy movement that the market would unexpectedly turn on me. While the unexpected is always possible, when I see a pattern that recurs in the market like the three trips beyond the 2 sigma, stack that with a strong trend, a well drawn channel, a standard turn around or other patterns, I trade with more confidence and less worry. I can also have clear boundaries to manage my risk with greater accuracy because the moment the pattern fails it is obvious and I can manage the trade. So, whether the pattern holds or fails, it tells me something important about the current PA that I can use to inform my next trade.


Bollinger bands can be a great indicator when combined with more basic indicators to add confluence and increase confidence in your trade decisions.

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