Bollinger Band Indicator Guide
Bollinger Band Indicator FAQ
What is the Bollinger Band Indicator?
The Bollinger Bands indicator, developed by financial analyst and trader John Bollinger, is a widely used tool in technical analysis. John Bollinger introduced these bands in his book titled “Bollinger on Bollinger Bands.” These bands consist of three lines plotted on a chart of any given asset, positioned below, above, and on the Japanese candlesticks chart. Traders extensively utilize the Bollinger Bands to assess price volatility and identify potential trend reversals. In essence, these bands help traders detect signs of overbought and oversold assets and make predictions about the continuity or reversal of the current trend, whether upward or downward.
How do Bollinger Bands Work?
Bollinger bands are a combination of 3 lines plotted on a chart. The first line is plotted in the middle and it represents a simple moving average line of the price of any chosen asset. Commonly, the simple moving average line considers the previous successive price of 20 days of trading. Whereas the other 2 lines are adjusted by adding or subtracting the volatility of the asset.
What are the benefits of using it ?
The Bollinger Bands indicator has numerous benefits, some of the key benefits are:- The indicator measures the volatility of the asset and displays it in a graphical representation that is easier to read and understand.
- The upper and lower lines work as support and resistance levels. These levels are dynamic and vary on a daily basis.
- The indicator is used to predict future trends and to detect whether the asset is currently oversold or overbought.
- Bollinger bands could be used to detect the volatility of the asset and periods of indecision.
How to use Bollinger Band to identify Market Breakout ?
Even inexperienced traders can easily interpret the Bollinger Bands indicator. When the space between the upper and lower bands tightens, it signifies a period of low volatility. This indicates that the price of the traded asset is experiencing less fluctuation compared to earlier, possibly due to lower trading volume. The tightening of the distance between the bands suggests the potential beginning of a trend.
Furthermore, there are other methods to interpret the Bollinger Bands indicator. Traders can utilize both the upper and lower bands to evaluate the current value of the traded asset. If the candlestick or its shadow touches or crosses below the lower band, it indicates that the asset is likely oversold, which suggests considering entering a long position. On the contrary, when the candlestick touches or crosses above the upper band, it indicates an overbought asset. In such cases, traders are advised to sell or short the asset.
Indicator formula
As mentioned earlier, 3 lines (A.K.A Bands) are used to construct the Bollinger bands indicator. The first line is the one in the middle of the chart and it is a simple moving average of the asset.
The upper line is also a simple moving average but it has 20 days standard deviation values added to the SMA values and multiplied by 2.
As, for the lower line, it is the same as the upper line but the 20 days standard deviation values are subtracted instead of added and multiplied also by 2.
Download Bollinger Band Indicator for MT4
You can download the efficient Bollinger Bands indicator in MT4 from Finansya App. In this example, we apply the Bollinger Bands indicator in MT4 to the Euro vs USD currency chart using a 1-day timeframe.
From November 9, 2022, to June 21, 2023, the Bollinger Bands indicator identifies multiple overbought and oversold points. In this example, we will explain four significant points that can be used for long position trades. Let’s start with point A, where both the body and shadow of the candlestick touch and go below the lower band, indicating an oversold asset.
At point B, a bearish candlestick’s shadow crosses the upper band, suggesting an overbought asset and an imminent price fall. By implementing a trading strategy of entering a long position at point A and exiting at point B, significant profits can potentially be obtained.
However, the trend at point B ends when another bearish candlestick’s shadow crosses the lower band at point C, initiating an uptrend. Subsequently, two different successive candlesticks’ shadows cross the upper band, triggering a sharp downtrend.
The Bollinger Bands indicator in MT4 effectively detects market trends. It’s allowing skilled traders and investors to utilize it for generating liquidity by entering long and short positions.
Download Bollinger Band Indicator for MT5
The Bollinger Band indicator for MT5 is similar to the version available for MT4. In fact, users can customize the indicator. Such as modifying the colors and width of each band according to their visual preferences. The moving average and standard deviation used in the indicator are based on the last 20 trading days, but users have the option to customize the number of days to weeks or months.
In the following example, we have the Euro vs USD 5 minutes chart where the indicator is applied. We can observe the following:
- Point A, C, and D represent lower cross points where the bottom part of a candlestick crosses the lower band. As mentioned earlier, when a candlestick touches or crosses the lower band, it indicates an oversold asset.
- On the other hand, point B indicates an overbought asset as the candlestick crosses the upper band.
- The asset exhibits high volatility, with significant price fluctuations. This is evident from the sharp dive in the asset’s price just before reaching point D. The wide space between the upper and lower bands before point D further emphasizes this volatility.
Download Bollinger Band Indicator for Tradingview
The Bollinger Band indicator on TradingView resembles the versions available for MT4 and MT5. In this example, we demonstrate the application of the Bollinger Band indicator on Microsoft stock, which is traded on the NASDAQ stock exchange using a 1-Day timeframe. At point A, the price breaches the upper band, indicating an upcoming downtrend due to the stock being overbought. However, the downtrend reverses starting from point B when the asset’s price touches the lower band, leading to an uptrend. Similar patterns occur at points C and D, where the price touches one of the bands. Finally, at point E, the candlestick crosses the lower band, initiating a long uptrend as the price is considered oversold at that time.
Conclusion
- Traders commonly utilize the Bollinger Band indicator to identify overbought and oversold conditions in the market.
- The indicator consists of three lines, wherein the middle line represents a simple moving average, and the other two lines extend from it.
- When the price crosses or touches the upper band, it signifies that the asset is overbought. It’s indicating a potential for price decline.
- Conversely, when the price crosses or touches the lower band, it indicates that the asset is oversold. It’s suggesting a possibility of price increase.
- The width of the gap between the upper and lower bands reflects price volatility.
