Bollinger Bands technical analysis indicator

The standard Bollinger Bands settings are 20 periods for the moving average and 2 standard deviations from the average. Such settings approximately correspond with the number of trading days in a month. It is necessary to change the deviation size if the moving average length changes. Bollinger offers to change parameters as follows:

Since BBands is a technical analysis indicator, the bands could be used for finding reversal points or chart patterns.

Let’s consider 4 patterns:

1. Double-top (“M”) reversal pattern.
2. Double-bottom (“W”) reversal pattern.
3. Trend strength confirmation pattern.
4. The squeeze.

Double-top (“M”) reversal pattern – the first high is above the upper boundary of the band or touches it, while the second high is inside the band. Triple-top patterns occur more often than double-top ones. There should be a momentum decay at the classical peak. Traders call these patterns head and shoulders or double/triples peaks.

Double-bottom (“W”) reversal pattern – the first low is below the lower boundary of the band or touches it, while the second low is inside the band. Bottoms are more pronounced than tops in the charts. Their formation, as a rule, takes less time than peak formation. It is connected with the traders psychology – they act more actively at market bottoms than tops.

Trend strength confirmation pattern or ‘walking the band’. For example, in the event of a strong price trend movement, the prices may touch the band many times and close during a number of days above the band boundary. Bollinger calls such touches ‘walking the band’. The fact of touching the upper or lower boundary is not a signal for a trader because he has to take into account the general picture. In the event of a strong trend, the average line serves as the support.

Let’s consider a ‘walking the band’ example in the 5-minute E-mini S&P 500 futures chart.

Apart from the Bollinger Bands, we added the Cumulative Delta,  Big Trades and Volume indicators to the chart.

• Consolidation takes place in period 1. The breakout place is clearly seen (red square) – Big Trades shows aggressive sellers.
• Volume in candle 2 increased at the moment of the breakout and it could be assumed that it was a true breakout. The price constantly touches the lower boundary of the Bollinger Band during the down movement and this movement is called ‘walking the band’.
• Volume decreased during a small rollback in period 3. It is highly probable that the price decrease will continue.
• We see big sells and a huge red candle in period 4. Such a volume may indicate a selling climax, and it’s time the traders with short positions became alert and watched the market reaction. However, the local bearish trend is too strong, that is why we see a small volume during the rollback again. Perhaps, some of the traders would register the short position profit here.
• We see something that reminds us of a double bottom in period 5. The first bottom is below the Bollinger Bands boundary, while the second is inside. The trend strength reduces when the price stops touching the upper boundary or moves above it. Cumulative Delta confirms a possible trend change. However, you shouldn’t immediately open long positions in this situation. It is better to wait for additional confirmation because the bearish impulse was very strong.

The squeeze pattern. Bollinger Bands are put in motion by volatility. Consolidation takes place during a squeeze and volatility increases during the band expansion. Squeeze often ends with a false breakout. In the event of a squeeze, a trader sells during the lower boundary breakdown and buys during the upper boundary breakout of the Bollinger Bands. However, confirming signals from other indicators are required for opening a trade.

We already considered a 5-minute E-mini S&P 500 futures chart example. We used Big Trades and Cumulative Delta as confirmation indicators. Bollinger recommends in his book to use volume indicators for confirmation, that is why we will add the ZigZag pro indicator to the chart.

We see consolidation and very narrow Bollinger Bands in the upper part of the chart.

• The volume sharply increases during the breakout in point 1.
• Further on, the volume increases in points 2 and 3.
• The price fall slows down in point 4 and the volume decreases compared to point 3.
• We see the minimum volume for the whole local bearish trend in point 5. Perhaps, sellers ran out of steam and it’s time they registered the short position profit.

Bollinger Bands could be used not only for the price charts but also they could be ‘superimposed’ on other indicators, for example, RSI (Relative Strength Index). Bollinger recommends the following settings: