Bollinger Bands

Filed under: Learn Forex Trading |

Bollinger bands were invented by a man called John Bollinger in the 1980s. It is a tool of technical analysis used for trading various markets, such as the stock or foreign exchange markets. The indicator involves three different lines – a middle line which is a moving average, and an upper and lower line which are, without getting too mathematical, a certain standard deviation away from this middle line. When trading, it is not really important to understand the mathematics behind the indicator – it is just important to know how to use it to facilitate your trading.

 

Figure 1.

Let me give you an example. Figure 1 shows a EUR/USD 1 hour chart with the Bollinger band indicator attached. Notice how every time price reached one of the outer extremes of the Bollinger band, it seems to hesitate and then move back toward the moving average, or the middle line of the Bollinger bands. This is because price always, in the end, moves back to the moving average line. However it should be noted that price sometimes sticks to an outer extreme for some time or even moves beyond it if the trend is particularly strong. Therefore, it is not quite so easy as you might think to create a trading system using Bollinger bands. If trading were that easy, then everybody would be rich… right?

 

What I use Bollinger bands for is to create an extra level of confluence. When combined with other trading signals, the Bollinger bands can create a very useful confirmation signal. For example, in Figure 1, there are some nice engulfing patterns at these outer extremes. If these patterns came at significant areas of support/resistance, then that is what I would call a confluence of signals. If you can have a price action signal at an area of support resistance at an outer extreme of a Bollinger band, then that is three signals all pointing to the same thing – that price is about to reverse. So when used in conjunction with other signals and indicators, Bollinger bands can be very useful indeed.

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