Using Bollinger Bands ® – Part 1

Filed under: Learn Forex Trading |

 

John Bollinger

Bollinger Bands is a tool of technical analysis and it is used in all markets, include forex. The tool was created by John Bollinger in the 1980s, and has become one of the staples of tools used in forex trading.

 

I’ve briefly covered Bollinger Bands before, but there seems to be quite a bit of confusion regarding how you should use them. In order to examine the ways in which you can use Bollinger bands, we should first look at what they actually are.

 

The Bollinger Bands consist of three lines – which are called the upper line, the lower line, and the moving average. The moving average is exactly that –usually a simple moving average, although other moving averages can be used as well. The upper line is a pre-defined standard deviation added to the moving average, and the lower line is a pre-defined standard deviation subtracted to the moving average. The standard deviation used is usually 2 or 2.5. In simple terms, the upper and lower bands mark extremities, and show that price is drifting significantly above or below the moving average.

 

Traders use this information in a variety of ways. One-way is to buy when price break above the upper band, hoping for a long trend to begin; and similarly, to sell when price breaks below the lower band. Other traders do the opposite of this, and sell when price breaks above the upper band and close the trade when it snaps back to the moving average – and buy when price breaks above the lower band, and again, close the trade when price snaps back to the moving average.

 

These strategies both have their merits, and seem to work better on different timeframes and on different markets. However, before any firm conclusions could be drawn, some extensive studies need to be done. Unfortunately, in the world of forex, empirical studies are not widely available so you will have to do most of the legwork yourself. So… in part 2 of this article, I will present a brief study that I will do based upon using Bollinger Bands, and then we will analyse the results.

 

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