Bollinger Bands Contracting

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Bollinger Bands Contracting


Chart 3 shows Sandisk with a smaller W-Bottom in July-August 2009. The descending triangle is a chart pattern used in technical analysis. The pattern usually forms at the end of a downtrend but can also occur as a consolidation in an uptrend. If there is a positive divergence—that is, if indicators are heading upward while price is heading down or neutral—it is a bullish sign.


You should consider whether you can afford to take the risk of losing your money. Bollinger Bands generate different values that change with movements in the underlying market value of the asset. In other words, when the market activity becomes more volatile, the bands will spread farther apart.

To fix this, a trader can look at the overall direction of the price and then only take trade signals that align them with the trend. For example, only take short positions when the upper band is tagged when the trend is down. If preferred, the lower band can still be used as an exit, but a new long position is not opened because that would mean going against the trend.

If you see that buyers are in control of the market into the squeeze, a breakout to the upside is more likely to occur. Alternatively, when the sellers are in control leading into the squeeze, a breakout to the downside is more probable. This can make it difficult for new traders to identify the current volatility within a market. Whereas when volatility drops off, the bands will tend to contract. When the market makes relatively larger moves in the direction of the trend, such moves are called impulse moves. When the market makes relatively smaller moves against the direction of the trend, such moves are called corrective moves.

The Ultimate Bollinger Bands Trading Strategy

M. Hurst who used cycles to draw envelopes around the price structure. Hurst’s work was so elegant that it became a sort of grail with many trying to replicate it, but few succeeding. In the early ’70s percentage bands became very popular, though we have no idea who created them. They were simply a moving average shifted up and down by a user-specified percent. Percentage bands had the decided advantage of being easy to deploy by hand. At any given time a 7% band consists of a base moving average, an upper curve at 107% of the base and a lower curve at 93% of the base.


It is also preferable to see the upper and lower starting to widen in a breakout scenario. The widening of the bands suggests an increase in volatility to confirm the move out of a consolidation and into a new trend. In strong trending Market, Bollinger bands looses its significance. When the price break upper Bollinger band and both upper & lower band is expanding then probability of further up movement is high.

The Kairi Relative Index is a technical analysis indicator used to indicate potential buy and sell points based on overbought or oversold conditions. A Keltner Channel is a set of bands placed above and below an asset’s price. The bands are based on volatility and can aid in determining trend direction and provide trade signals. One of the main limitations is that it shouldn’t be used as a standalone tool. In fact, Bollinger Bands® should be used with other non-correlated indicators. Doing so may give you additional market signals that are much more direct.

How this indicator works

The chart below shows Starbucks with two signals within a two-month period, which is relatively rare. After a surge in March, the stock consolidated with an extended trading range. SBUX broke the lower band twice, but did not break support from the mid-March low. Notice that this pattern formed after a surge in early March, which makes it a bullish continuation pattern.

  • But take a look at how slow it was in showing the trend change.
  • Similarly, prices can “walk the band” with numerous touches during a strong uptrend.
  • A doji is a trading session where a security’s open and close prices are virtually equal.
  • The Bollinger squeeze looks for breakouts above/below the band depending on trend to be used as entry signs.

In this article, we’ve covered what are Bollinger Bands, the formula to calculate Bollinger Bands, Bollinger Band trading, which you can do in trend trading system and mean reversion systems. You can also use Bollinger Band squeezes to trade in anticipation of breakout. You can also use Bollinger Bands to set your initial stop-loss level when you place a trade. You do this by calculating the lower band on the day of entry and placing your stop at that level.

Bollinger Bands Calculation Explained

But you should be aware of this common mistake because breakout should never be noticed as a trading signal. On the other hand, the prices are likely to be losing momentum if the prices fail to move along or touch the lower band. Similarly, it triggers a trader’s mind to make a buying decision, as they assume it a great opportunity.

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By definition, the standard deviations of the bands tell us the range of expected price changes over a certain time window. The higher the standard deviation, the more extreme the price move must be to reach the outer bands. High momentum breakouts generally lead to the biggest moves, and often precipitate the start of a new trend. The scale of the chart is also significant as shown in the figures.

Pair with other indicators

The stock broke support a week later and MACD moved below its signal line. Notice that this M-top is more complex because there are lower reaction highs on either side of the peak . The average true range is a market volatility indicator used in technical analysis. You’d be hard-pressed to find a trader who has never heard of John Bollinger and his namesake bands. Although these bands are some of the most useful technical indicators if applied properly, they are also among the least understood.

A Bollinger Band® is a momentum indicator used in technical analysis that depicts two standard deviations above and below a simple moving average. The chart above shows the EUR/USD chart in an uptrend – depicted by higher highs and higher lows. Using the Bollinger Band® indicator, the lower band is seen as a gauge of support. When price touches the lower band, traders use this as a signal to enter a long trade. Take profit levels are generally taken from the upper and lower bands depending on trend. In this example, the upper band will be used as the take profit level.

overbought or oversold

The centerline is typically a moving average while the price channels are standard deviations of the stock being studied. In the 1980s, John Bollinger, a long-time technician of the markets, developed the technique of using a moving average with two trading bands above and below it. Unlike a percentage calculation from a normal moving average, Bollinger Bands® simply add and subtract a standard deviation calculation. The Bollinger Band Squeeze is a trading strategy designed to find consolidations with decreasing volatility. In its purest form, this strategy is neutral and the ensuing break can be up or down.

Therefore, the current rally remains sustainable within the 95% containment zone). This strategy is for those of us that like to ask for very little from the markets. The key to this strategy is waiting on a test of the midline before entering the position.

Plan your trading

It then compares that value to the average of the asset over the previous 20 price periods. For this reason, expert traders will often use this technical indicator in conjunction with another indicator. Moving Average Convergence/Divergence and Relative Strength Index technical indicators are often used to validate Bollinger Bands’ signals. The problem with momentum strategies is eye-watering drawdowns. Do not use this strategy to trade stocks when there is not a strong trend.

  • The bands expand and contract as price action becomes volatile or bound into a tight trading pattern .
  • Bollinger Bands can be used to determine how strongly an asset is rising and when it is potentially reversing or losing strength.
  • If both bands are expanding fast means trend reversal has happened.
  • That relative definition can be used to compare price action and indicator action to arrive at rigorous buy and sell decisions.
  • From here, the price continues moving higher until valuations breach the upper band once again – the second downward arrow.

Using this as a filter you would use a fairly long period to calculate the bands, but a narrow width for the bands. If you change the period from 20 bars to 100 bars the Bollinger Band uses as more bars of data to calculate both the moving average and the standard deviation. These are good ideas but you need to test them in your markets and see if they actually can generate the level of profit that you want. You should never trade any indicator on blind faith, you must backtest it and see if it actually works. These events mark a balance between buyers and sellers when there’s a lack of directional strength on either side.

However, traders can customize the number of periods in the moving average as well as the number of deviations. Another limitation of Bollinger Bands is that the standard settings will not work for all traders. Traders must find settings that allow them to set guidelines for specific stocks that they are trading.

John Bollinger a noted technical analyst invented Bollinger Bands. The price continues to move and eventually, an entire candle breaks below the upper band. Bear in mind that a “fake break” may occur when a candle moves above the upper band but is unable to sustain the momentum.

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