A Quick Look At Bollinger Bands
Bollinger bands is a popular band analysis similar to the
Alpha Beta trend. It can be used as a system in itself or with Oscillators such as the Relative Strength Index (RSI). The analysis is standard in both Reuters Technical Analysis (RTA) and Reuters Technical Analysis for Unix (RTAu).
Bollinger Bands consist of 3 lines. 2 charted ones above
and the other below the moving average of closing prices, which makes up the third line. The moving average of close data needs to be created seoaratelv to complete the bollineer bands analysis.
This analysis varies from other percentage band analyses
because the distance of each band from the moving average is not fixed. Instead, the price channel these bands form around the moving average is flexible, being determined by specifying a number of standard deviations from it.
John Bollineer. who created Bollineer Bands and used
them in stock tradine. Used a standard deviation of 2 which captures about 95% of price action within the bands. A different number of standard deviations can be selected dependina on the market traded for example, 1.8 standard deviations would be more appropriate for futures trading.
The length of the moving average which is used to
calculate the bands is usually 20 days or less. Care should be taken here as these sample sizes are small and statistical error Quite possible. The only statistical inference that should be drawn from this analysis is that most (approx. 95%) of the price action will be contained.
A useful feature of Bollinger Bands is automatic narrowing
and widening in response to volatility — narrow in calm markets and wide in volatile markets. This makes them an effective trend indicator, especially when used in conjunction with another trend following tool.
Trading Rules
Use Bollinger Bands with a price chart and simple moving average (the same length as the Bollinger Bands) then keep a look out for the following signals:
Fig 1 Bollinger Bands(top) used with an RSI(bottom).
Trendlines show divergence between the RSI and Price which confirms the Bollinger Bands.
Prices near the lower band may signal an oversold market.
Prices near the upper band may signal an overbought market.
The bands often narrow before a sharp move in price, either ud or down. A narrowing of the bands often indicates the start of a new trend, which is confirmed when prices break and close out of the band.
An interval that closes above the top band, followed by another that closes within, may signal a reversal and a good time to sell.
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Vocabulary
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