How To Use Bollinger Bands Indicator In Forex Trading: Ultimate Guide For New Traders

How To Use Bollinger Bands Indicator In Forex Trading: Ultimate Guide For New Traders

What’s up Traders, in this article, we’re going to be talking about using Bollinger Bands Indicator in Forex Trading. I show you how to utilise Bollinger Bands to trade Forex in this post, then go through some of our favourite Bollinger Bands techniques with examples. 

Continue reading if you’re interested in learning more about Bollinger Bands or looking for a Bollinger Bands technique for the Forex markets.

 

What is a Bollinger Band® and How does it work?

 

  • Bollinger Bands®: How to Calculations
  • About Bollinger Bands® learning
  • The Struggle
  • The Breakouts
  • Bollinger Bands® limitations

A Bollinger Band® is a technical analysis tool characterised by a series of trendlines plotted two standard deviations (positively and negatively) away from a security’s price’s simple moving average (SMA), but which can be altered to the user’s preferences.

Bollinger Bands® were created and trademarked by John Bollinger, a well-known technical trader, to help investors find possibilities that give them a better chance of correctly detecting whether an asset is oversold or overbought.

Bollinger Bands® are a technical analysis technique created by John Bollinger that may be used to generate oversold or overbought indications. Bollinger Bands are divided into three lines: An upper and lower band, as well as a simple moving average (middle band).

Upper and lower bands are usually 2 standard deviations +/- from a 20-day simple moving average, but they can be changed.

 

Bollinger Bands®: How to Calculations

The first step in creating Bollinger Bands® is to calculate the security’s simple moving average, which is usually a 20-day SMA. 

As the initial data point, a 20-day moving average would average out the closing prices for the first 20 days.

The following data point would subtract the first price, add the price on day 21, and average it, and so on. 

The standard deviation of the security’s price will be calculated after that. 

In statistics, economics, accounting, and finance, the standard deviation is a statistical measurement of average variance.

The standard deviation of a data collection indicates how much numbers deviate from an average value. 

The square root of the variance, which is the average of the squared differences of the mean, can be used to determine standard deviation. 

After that, divide the standard deviation by two and add or subtract that amount from each point along the SMA. The top and lower bands are created by this.

The Bollinger Band® formula is as follows:

BOLU=MA(TP,n)+m∗σ[TP,n]

BOLD=MA(TP,n)−m∗σ[TP,n]

 

Where:

BOLU=Upper Bollinger Band

BOLD=Lower Bollinger Band

MA=Moving average

TP (typical price)=(High+Low+Close)÷3

n=Number of days in smoothing period (typically 20)

m=Number of standard deviations (typically 2)

σ[TP,n]=Standard Deviation over last n periods of TP

About Bollinger Bands® learning

Bollinger Bands® are a popular trading strategy. Many traders feel that the closer prices get to the top band, the more overbought the market is, and that the closer prices get to the lower band, the more oversold it is. 

When employing the bands as a trading technique, John Bollinger has a set of 22 guidelines to follow.

Bollinger Bands® are used to bracket the stock’s 20-day SMA with an upper and lower band, as well as the daily price fluctuations, as shown in the chart below. 

Because standard deviation is a measure of volatility, the bands widen as the markets get more volatile, while the bands contract as the markets become less volatile.

Bollinger Bands® are used to bracket the stock's 20-day SMA with an upper and lower band, as well as the daily price fluctuations, as shown in the chart below.
(Source: Investopedia)

The Struggle

The core notion of Bollinger Bands® is the squeeze. A squeeze occurs when the bands close in on each other, limiting the moving average. 

A squeeze indicates a time of low volatility and is seen as a probable harbinger of future rising volatility and trading opportunities by traders.

In contrast, the wider the bands move apart, the more likely there is to be a drop in volatility and a larger chance of abandoning a trade. 

These conditions, however, are not trading signals. The bands provide no indication of when the price will change or in which direction it will go.

 

The Breakouts

Approximately 90% of price movement takes place between the two bands. A big event is any breakthrough above or below the bands. 

The breakout isn’t a signal to buy or sell. Most consumers make the mistake of believing that a price crossing or exceeding one of the bands indicates a buy or sell indication. 

Breakouts give no indication of the direction or magnitude of future price movement.

 

Bollinger Bands® limitations

Bollinger Bands® are not a trading system in and of themselves. They’re just one type of indicator used to give traders information about price volatility. 

They should be used with two or three other non-correlated indicators that provide more direct market cues, according to John Bollinger. 

He feels that using indications based on many forms of data is critical. Moving average divergence/convergence (MACD), on-balance volume, and relative strength index are some of his favourite technical indicators (RSI).

Because they are based on a simple moving average, they give equal weight to older and newer price data, which means that new information may be diluted by old data. 

Furthermore, the usage of a 20-day SMA and two standard deviations is somewhat discretionary and may not work for everyone in all situations. 

Traders should monitor and change their SMA and standard deviation assumptions as needed.

 

Bollinger Bands® Fundamentals

 

  • How to read a Bollinger Band®
  • Bollinger Bands® as an examples

John Bollinger, a long-time market specialist, invented the strategy of utilising a moving average with two trading bands above and below it in the 1980s. 

Bollinger Bands®, unlike a regular moving average’s percentage calculation, merely add and remove a standard deviation calculation. 

Bollinger Bands are made up of a midline and two price channels (bands) on either side of it. The price channels represent the standard deviations of the stock being analysed, and the centerline is usually a simple moving average.

As price activity becomes more erratic (expansion) or bound into a tight trading pattern (contraction), the bands will grow and contract (contraction).

When the price repeatedly touches the upper Bollinger Band, it indicates an overbought signal, and when it repeatedly touches the lower Bollinger Band, it indicates an oversold signal.

 

How to read a Bollinger Band®

A centerline and two price channels (bands) above and below it make up Bollinger Bands®. 

The price channels represent the standard deviations of the stock being analysed, and the centerline is usually a simple moving average. 

As an issue’s price movement becomes more erratic (expansion) or locked into a tight trading pattern (contraction), the bands will expand and contract (contraction).

A stock may move in a trend for lengthy periods of time, with some volatility thrown in from time to time. 

Traders use the moving average to filter the price activity in order to better see the trend. Traders can acquire crucial information about how the market is trading in this manner.

The market may consolidate following a dramatic increase or fall in the trend, for example, trading in a small range and crisscrossing above and below the moving average. 

Traders utilise price channels, which contain trading activity surrounding the trend, to better track this behaviour.

Markets are known to move unpredictably on a daily basis, even when they are in an upswing or slump. 

Moving averages with support and resistance lines are used by technicians to forecast a stock’s price action.

The trader draws upper resistance and lower support lines first, then extrapolates them to build channels within which he believes prices to be contained. 

Some traders draw straight lines linking the tops and bottoms of prices to designate the upper and lower price extremes, respectively, and then add parallel lines to establish the price channel. 

The trader can be pretty confident that prices are moving as expected as long as prices do not move out of this channel.

Stock prices are regarded to be overbought when they consistently hit the upper Bollinger Band®; conversely, when they consistently touch the lower Bollinger Band®, prices are thought to be oversold, triggering a buy signal.

Designate the upper and lower bands as price targets when using Bollinger Bands®. 

The top band becomes the upper price objective if the price deviates from the lower band and passes above the 20-day average (the centre line). 

Prices frequently vary between the upper band and the 20-day moving average during a strong advance. When this happens, a cross below the 20-day moving average signals a downward trend reversal.

 

Bollinger Bands® as an examples

 

In this chart of American Express NYSE AXP from the beginning of 2008, you can see that the price movement was mostly touching the lower band
(Source: Investopedia)

In this chart of American Express (NYSE: AXP) from the beginning of 2008, you can see that the price movement was mostly touching the lower band, and the stock price fell from $60 in the depth of winter to about $10 in March. 

The price action cut through the centerline in a handful of instances (March to May and again in July and August), but for many traders, this was not a buy signal because the trend had not been broken.

The trend reversed to an uptrend in the early part of January in the 2001 chart of Microsoft Corporation Nasdaq MSFT
(Source: Investopedia)

The trend reversed to an uptrend in the early part of January in the 2001 chart of Microsoft Corporation (Nasdaq: MSFT), but look at how slow it was to indicate the trend reversal. 

The stock price had climbed from $20 to $24 and then to between $24 and $25 when the price movement crossed over the centerline, giving some traders confirmation of the trend reversal.

This isn’t to argue that Bollinger Bands® aren’t a reliable indication of overbought and oversold conditions. 

But charts like the Microsoft layout from 2001 serve as a useful reminder that we should start with simple moving averages and trends before moving on to more complex indicators.

 

Final Thoughts

While every technique has flaws, Bollinger Bands® have emerged as one of the most useful and widely used instruments for identifying extreme short-term pricing in a securities. Buying when stock prices fall below the lower Bollinger Band® might help traders profit from oversold conditions when the stock price rises toward the moving-average line in the middle.

 

About using Bollinger Bands in Forex Trading?

 

  • The Bollinger Bands
  • Limits of setting
  • Volatility Analysis
  • Preparedness plans

Technical analysts and traders in all markets, including forex, use Bollinger Bands. 

Because currency traders seek incremental price movements to earn, immediately spotting volatility and trend changes is critical to establishing a profitable approach.

Forex trading is one of the world’s most popular trading markets, with far more activity than the stock market. 

The assumption is that a trader can benefit by buying and selling multiple currencies at a favourable price point by taking advantage of small fluctuations in exchange rates. 

The theory is the same as it is for trading any other asset. If a trader believes the price of a currency will rise, they will buy it. If they believe the value of the currency will fall, they will sell it.

 

The Bollinger Bands

Traders use Bollinger Bands, a type of technical analysis, to draw trend lines two standard deviations apart from a security’s simple moving average price. 

The purpose is to aid traders in determining whether to enter or quit a trade by identifying when an asset has been overbought or oversold. John Bollinger created the Bollinger Bands.

Bollinger Bands assist by alerting traders to variations in volatility. Bollinger Bands operate as pretty unambiguous signals for buying and selling for generally steady ranges of a security, such as many currency pairs. 

However, because this can lead to stop-outs and painful losses, traders must consider additional considerations when conducting trades with the Bollinger Bands.

 

Limits of setting

To begin, a trader must comprehend how Bollinger Bands are constructed. There’s an upper and lower band, each two standard deviations apart from the security’s 21-day simple moving average. 

As a result, the Bands depict price volatility in relation to the average, and traders should expect price changes anywhere between the two bands. 

Forex traders can place sell orders at the upper band limit and buy orders at the lower band limit by using the bands. 

This approach works well with currencies that trade in a range, but it can be costly to a trader if the market breaks out.

 

Volatility Analysis

Bollinger Bands react and change shape when price fluctuations grow or decrease because they measure departure from the average. 

Increased volatility is almost usually a warning that new normals are about to be established, and traders can take advantage of this by employing Bollinger Bands. 

The “Squeeze” occurs when the Bollinger Bands converge on the moving average, indicating decreasing price volatility.

This is one of Bollinger Bands’ most reliable indications, and it works well with FX trading. On October 31, 2014, the USD/JPY currency pair experienced a squeeze. 

The announcement by the Bank of Japan that it would increase its stimulus bond-buying policy caused the shift in trend. 

Even if a trader was unaware of the news, the Bollinger Band Squeeze might detect a trend change.

 

Preparedness plans

When reactions aren’t as strong as they should be, traders risk missing out on earnings by placing orders directly on the upper and lower Bollinger Bands. 

To avoid disappointment, it’s a good idea to set up entry and exit points around these lines. 

Another forex trading strategy to deal around this is to create upper and lower channels with a second set of Bollinger Bands situated only one standard deviation from the moving average. 

Then, in order to increase execution probability, purchase orders are placed in the lower zone and sell orders in the upper zone.

The Inside Day Bollinger Band Turn Trade and the Pure Fade Trade are two other particular strategies utilised in forex trading with Bollinger Bands.

These are all winning trades in theory, but in order for them to work, traders must create and follow the strategies precisely.

 

Final Thoughts

Bollinger Bands can be a useful tool for traders in determining the volatility of their position and determining when to enter and leave a trade. 

Certain characteristics of Bollinger Bands, such as the Squeeze, as well as creating a second set of Bollinger Bands, are useful for forex traders. 

When used appropriately, this tool can assist investors and traders in making better judgments and, perhaps, profit.

 

Strategy using Double Bollinger Bands

Now that we have a better understanding of this technical signal, let’s look at our first Bollinger Bands method.

Kathy Lien, a well-known Forex analyst and trader, popularised the Double Bollinger Band Strategy, which she described as her favourite trading method in her book, ‘The Little Book of Currency Trading.’

The Double Bollinger Band Strategy is easy to understand and can be applied to any actively traded asset on large liquid markets including Forex, equities, and commodities. 

It necessitates the addition of two sets of Bollinger Bands to a single price chart, as the name implies.

 

Setting of Double Bollinger Bands

This is how you use MetaTrader 5’s Double Bollinger Bands settings:

*Select ‘Indicators’, ‘Trend’, and then ‘Bollinger Bands’ from the ‘Insert’ menu at the top of the screen.

*Set the ‘Period’ to 20 and the ‘Deviations’ to 2, but leave the ‘Shift’ at 0.

*Replace the first set of Bollinger Bands with a second set of Bollinger Bands of a different colour.

*Set the ‘Period’ to 20 and the ‘Deviations’ to 1, but leave the ‘Shift’ at 0.

Setting of Double Bollinger Bands
(Source: Investopedia)

There are three separate trading zones in the Double Bollinger Band Strategy:

  • Between lines A1 and B1 is the Buy Zone.
  • Between lines B1 and B2 lies the Neutral Zone.
  • Between lines B2 and A2 is the Sell Zone.

 

The Scalping Strategy with Bollinger Bands

 

  • Buy of Trade
  • Sell of Trade

For individuals who love trading on the shortest periods, there’s a Bollinger Bands scalping approach next. On the price chart, five indicators are using:

  • Green Bollinger Bands (14,1)
  • Admirals Pivot (H1)
  • Awesome Oscillator by Bill Williams
  • RSI (Relative Strength Index) is a (14)
  • EMA (Exponential Moving Average) – black – (4)

This Bollinger Bands scalping approach can be traded with a 1 minute, 5 minute, or 15 minute time frame.

Admiral Pivot points are the targets, which are set on an H1 time frame. For long trades, a stop loss is placed below the interim Admiral Pivot support, while for short trades, it is placed above the interim Admiral Pivot resistance (for short trades). 

Ideally, you should trade this Bollinger Band scalping method with major Forex currency pairs.

 

Buy of Trade

When the black 4-EMA crosses over the middle Bollinger Band, the Awesome Oscillator should be crossing its zero lines and rising up, and the RSI should be coming up and above its 50 line, a buy trade is initiated.

 

Sell of Trade

When it comes to sell trades, you’re simply looking for the polar opposite of buy transactions. 

At the same time when the Awesome Oscillator crosses below the zero line and the RSI crosses below the 50 line, the 4 EMA must cross below the middle Bollinger band.

 

Trends can be measured using Bollinger Bands

 

  • Strategy for Overbought and Oversold 
  • Make multiple Bands to dain more insight
  • Trend Traders and Faders will Benefit from this tool
  • Squeeze Strategy with Bollinger Bands
  • Keltner vs. Bollinger

Bollinger Bands® are a form of technical analysis chart indication that has grown popular among traders in a variety of markets, including stocks, futures, and currencies. 

The Bollinger Bands, invented by John Bollinger in the 1980s, provide unique insights into price and volatility.

Bollinger Bands® can be used for a variety of purposes, including assessing overbought and oversold levels, trend following, and breakout monitoring.

Bollinger Bands® are a trading technique that may be used to calculate trade entry and exit locations. Overbought and oversold circumstances are frequently identified using the bands.

Trading just with the bands is a dangerous technique because the indicator focuses on price and volatility while disregarding a lot of other important data. 

Bollinger Bands® are a relatively simple trading tool that is extremely popular among professional and at-home traders alike.

 

Strategy for Overbought and Oversold 

When utilising Bollinger Bands®, one popular strategy is to look for overbought or oversold market circumstances. 

When the asset’s price falls below the lower band of the Bollinger Bands®, it’s possible that prices have fallen too far and are due for a bounce. 

When price breaks above the upper range, however, the market is likely overbought and due for a pullback.

Using the bands as overbought/oversold indicators is based on the idea of price mean reversion. 

The theory of mean reversion states that if a price deviates significantly from the mean or average, it will eventually return to the mean price.

Mean reversion methods can perform well in range-bound markets, as prices bounce back and forth between the two bands like a bouncing ball. 

Bollinger Bands®, on the other hand, do not always provide reliable buy and sell indications. 

During a strong trend, for example, the trader risks placing trades on the wrong side of the trend since the indicator can flash overbought or oversold indications too quickly.

To help with this, a trader can look at the overall price direction and only take trade signals that correspond with the trend. 

Take short positions only when the upper band is tagged, for example, if the trend is down. 

If desired, the lower band can be used as an exit, but no new long positions are established because it would be going against the trend.

When utilising Bollinger Bands®, one popular strategy is to look for overbought or oversold market circumstances.
(Source: Investopedia)

Make multiple Bands to dain more insight

“Tags of the bands are just that, tags, not signals,” John Bollinger admitted. A touch (or tag) of the upper Bollinger Band® is not a sell signal in and of itself.

A lower Bollinger Band® tag is not a buy signal in and of itself. Price can and does “walk the band” on a regular basis. 

Traders who try to “sell the peak” or “buy the bottom” in those markets are met with a painful succession of stop-outs, or worse, ever-increasing losses as price moves further and further away from the original entrance.

Bollinger Bands® measure variation at their core, which is why the indicator may be particularly useful in trend detection. 

We may look at price in a whole new way by creating two sets of Bollinger Bands®, one using the parameter of “one standard deviation” and the other using the standard option of “two standard deviations.” This Bollinger Band® shall be referred to as “bands.”

For example, in the chart below, we can see that when price is held between the upper Bollinger Bands® +1 SD and +2 SD away from mean, the trend is up; thus, that channel is known as the “buy zone.” 

Price channels within Bollinger Bands® –1 SD and –2 SD, on the other hand, are in the “sell zone.” 

Finally, if the price oscillates between the +1 and –1 SD bands, it is effectively neutral, and we may claim it is in unexplored terrain.

As volatility rises and falls, Bollinger Bands® adjust dynamically to price expansion and contraction. 

As a result, the bands widen and narrow in lockstep with price movement, resulting in a highly accurate trending envelope.

For example, in the chart below, we can see that when price is held between the upper Bollinger Bands® +1 SD and +2 SD away from mean, the trend is up thus, that channel is known as the buy zone.
(Source: Investopedia)

Trend Traders and Faders will Benefit from this tool

Now that we’ve established the fundamentals of Bollinger Band® “bands,” we can show how this technical tool may be employed by trend traders looking to profit from momentum as well as fade traders looking to profit from trend exhaustion or reversals. 

Returning to the chart above, we can see how trend traders would enter the “buy zone” and position themselves long. 

The Bollinger Band® “bands” contain most of the price action of the move higher, allowing them to stay in the trade.

When it comes to an exit point, each trader’s answer is different, but one sensible option would be to cancel a long trade if the candle on the candlestick charts turns red and more than 75% of its body is below the “buy zone.” 

Using the 75 percent criteria, price definitely breaks out of trend at that moment, but why must the candle be red? 

The second criterion exists to keep trend traders from being “wiggled out” of a trend by a rapid move to the downside that then snaps back to the “buy zone” at the end of the trading period.

Note how the trader is able to continue with the move for the majority of the uptrend in the next chart, exiting just when price begins to consolidate at the top of the new range.

Note how the trader is able to continue with the move for the majority of the uptrend in the next chart, exiting just when price begins to consolidate at the top of the new range.
(Source: Investopedia)

Bollinger Band® “bands” can also be a useful tool for traders who want to profit from trend exhaustion by assisting in the identification of the price turn. 

Counter-trend trading, on the other hand, necessitates significantly higher margins of error, as trends frequently make multiple attempts to continue before reversing.

A fade-trader using Bollinger Band® “bands” will be able to immediately diagnose the first inkling of trend weakening, as shown in the chart below. 

After prices have fallen out of the trend channel, the fader may decide to use Bollinger Bands® in the traditional way by shorting the next tag of the upper Bollinger Band®.

When it comes to stop-loss levels, placing the stop slightly above the swing high almost guarantees the trader is stopped out, as the price will frequently make lunges at the recent high as buyers try to prolong the trend. 

Instead, it’s occasionally a good idea to add the width of the “no man’s land” area to the upper band (distance between +1 and –1 SD). 

The trader avoids being stopped out and is able to stay in the short trade as the price starts to fall by exploiting the market’s volatility to help determine a stop-loss level.

The trader avoids being stopped out and is able to stay in the short trade as the price starts to fall by exploiting the market's volatility to help determine a stop-loss level.
(Source: Investopedia)

Squeeze Strategy with Bollinger Bands

A squeeze strategy is another Bollinger Bands® strategy to consider. When the price has been advancing aggressively and then begins to move laterally in a tight consolidation, it is called a squeeze.

When the upper and lower bands grow closer together, a trader can visually recognise when the price of an asset is consolidating. 

This indicates that the asset’s volatility has diminished. Following a period of consolidation, the price frequently makes a greater move in either direction, preferably on heavy volume. 

Expanding volume on a breakout indicates that traders are betting that the price will continue to move in the breakout direction with their money.

The trader buys or sells the item when the price breaks through the upper or lower range. A stop-loss order is generally placed on the other side of the breakout, outside the consolidation.

Squeeze Strategy with Bollinger Bands
(Source: Investopedia)

Keltner vs. Bollinger

Bollinger Bands® and Keltner Channels are two indicators that are similar but not identical. 

Here’s a quick rundown of the differences so you can determine which you prefer.

Bollinger Bands® employ the underlying asset’s standard deviation, whereas Keltner Channels use the average true range (ATR), which is a measure of volatility based on the security’s trading range. 

The interpretation of these indicators is generally the same, regardless of how the bands/channels are produced.

Because Keltner Channels use average true range instead of standard deviation, more buy and sell signals are created in Keltner Channels than in Bollinger Bands®.

 

Final Thoughts

Bollinger Bands® can be used for a variety of purposes, including detecting overbought and oversold trade signals. Traders can also use numerous bands to show the magnitude of price movements. 

Looking for volatility contractions is another method to use the bands. Following these contractions, major price breakouts, ideally on large volume, are common. 

Keltner Channels are not to be confused with Bollinger Bands®. The two indicators are similar, yet they are not identical.

 

Final words

Okay, so that’s it I’ve come to the end of this presentation, I hope you’ve enjoyed it and if you really do please write a comment and click the share buttons smash it right, and click to subscribe bell to Allow notifications be updated.

Whenever, I publish content like, this and finally any questions or feedback let me know below and I’ll do my best to help, so with this guide, I hope you got value out of this presentation, I wish you good luck and good trading and I’ll talk to you soon you.

About Author

Leave a Comment

Your email address will not be published.