Bollinger Bands are technical indicators used hugely in predicting the future behavior of the price chart. The indicator typically comprises of standard deviations and a moving average that forms a channel around an asset’s price movements.
Bollinger bands are essential in identifying the direction of a trend, monitoring volatility and spot potential reversals. With this data, stocks, options, and CFDs traders can make better decisions while trading.
Bollinger Band Basics
As earlier stated, Bollinger bands include three lines. The middle line is typically a moving average, which is set by the trader. Then the other two lines appear at the outer sides of the moving average. The distance between the outer bands is set based on the standard deviations. Many traders, however, set the indicator using two standard deviations from the moving average.
There’s no shortcut. You need to select a setting that aligns with the techniques you’re using in trading a certain asset. However, Bollinger bands can help you make smarter trades as they work with CFDs across multiple assets.
Day Trading Uptrends
Bollinger bands can help you evaluate the strength of an asset’s uptrend and when it’s potentially reversing or losing strength. Using this information, you can then make more informed trading decisions. So, how do you implement Bollinger Bands while trading in an uptrend?
A strong uptrend price of an asset will touch the upper band or run along it during higher impulse waves. Conversely, it’s a clear indication of the uptrend losing momentum. An uptrend that touches the upper band most traders use the chance to make a buy decision.
Sometimes you may observe a drop in the prices during an uptrend. This period is referred to as pullbacks. When the price pullbacks during an uptrend the pullback lows will appear near or above the middle band. If the price pullback in an uptrend stays above the moving average line and moves back to the upper band, it shows strength.
On the other hand, if the price in a powerful uptrend touches the lower band, it’s a great indication of a reversal.
Day Trading Downtrends
Bollinger bands can also be helpful when evaluating how strongly an asset is falling and also when it’s potentially reversing on an upside trend.
In a strong downtrend, the price tends to touch or even run along the lower band. This shows a strong selling activity. If it doesn’t, that shows a loss in momentum of the downtrend.
When the price pulls back within a strong downtrend, the pullback highs will appear near or below the moving average line. If the pullback moves back to the lower band, it does show great downtrend strength. A strong downtrend price shouldn’t break above the upper band. But when it does, it shows a reversal in the trend.
Trend Reversals with Bollinger Bands
But how do you spot reversals? You can spot a reversal when the price is in an uptrend, and it hits the lower band. A reversal can also be shown when the price in a downtrend hits the upper band.