If you are a trader, then the enhancement of technical analysis skills will definitely require learning Bollinger Bands. It is a very powerful tool to measure price volatility and identify trends in the market. However, many traders do not know how to use it. Whether you trade on TradingView or MetaTrader 4, this guide covers all the main concepts of Bollinger Bands, their inputs, how to set them up on your platform, and how to incorporate them into your trading strategy.
What Are Bollinger Bands?
A simple chart overlay made to measure how elastic price changes are, there are three components of Bollinger Bands including the upper, lower, and midpoint (of course, referred to as moving average). Primary usage of this indicator is giving traders a read on whether market is trending or consolidating so promptly. The movement of the volatility will cause one to expand through strong volatility and move inwards, during low-level volatility.
Bollinger Bands were developed by market technician John Bollinger in the early 1980s and introduced in his book Bollinger on Bollinger Bands. The indicator was created to measure the dynamic nature of price volatility, moving away from the static concepts of the time. It compares current price action to an arithmetic mean, helping traders identify whether prices are high or low.
The Purpose of Bollinger Bands
The most important function of Bollinger Bands is to measure the volatility of the price. The bands expand and shrink according to the price action. When it stays within the higher and lower bands, then volatility will be normal. However, when it breaks through those levels, then the volatility becomes high or low depending upon which direction it breaks. This is when a trader should begin searching for possible opportunities in the market.
Understanding the Inputs of Bollinger Bands
Bollinger Bands use four key inputs for its construction:
- Period: It is the number of price bars that form the moving average. The default period is 20, but adjustments can be made depending on timeframes and markets. A longer period aggregates more data, while a shorter period reacts to price movements more quickly.
- Moving Average: The center of the Bollinger Band envelope is basically a moving average, which may be simple, exponential, or smoothed. It is plotted in the middle and acts as the reference point for the upper and lower bands.
- Standard Deviation: One of the statistical tools used to measure the dispersion of data from the mean. The standard deviation helps determine how wide or narrow the bands will be. A higher standard deviation means that the bands will be wider, and a lower value results in tighter bands. The most common standard deviation is 2.0, but it can be varied.
- Data Set: The price data on which the moving average is based. This can include open, close, high, low, or mid prices, depending on your trading strategy and platform settings.
Setting Up Bollinger Bands on TradingView and MetaTrader 4
Setting Up Bollinger Bands on MetaTrader 4 (MT4)
- Open the MT4 platform and load a chart (e.g., EUR/USD).
- Go to the Navigator window and expand the Indicators list.
- Locate Bollinger Bands in the Trend section, and click to add it to your chart.
- Use the default: period is 20; standard deviation is 2. You may have to adjust the data set being used—in this example, Close should be used.
- You now will see the bands over top of your price action, giving you good visualization of market volatility.
Adding Bollinger Bands on TradingView
- Launch TradingView and add a chart, such as EUR/USD.
- Click on the Indicators icon at the top of the screen.
- Type in “Bollinger Bands” and click to add it to your chart.
- Adjust settings, including period (default 20) and standard deviation (usually 2.0).
- You can also customize the colors and style of the bands for easier visualization.
Using Bollinger Bands in Your Trading Strategy
This indicator is a versatile one, and it might work with almost any market condition. Further, the bands are just marvelous in distinguishing whether the market trends or is actually range-bound. Here’s decomposition of how one can use Bollinger Bands into your strategy.
Trend Following with Bollinger Bands
Bollinger Bands can be used for the identification of trending markets. One popular method is to enter once the price crosses above or below the upper or lower bands. Again, by the rules of Bollinger, such breakouts tend to be continuations rather than reversals.
- Breakout Strategy: Once the price moves outside the Bollinger Bands to close, this is an indication that a strong trend might be at play. In this case, an upward movement suggests breaking above the upper band while the opposite of it suggests downward breakouts when price closes below the lower band.
- Rotational Strategy: Best applied in a consolidating market. When the price is trading inside the bands and yet is showing a breakout, it may be a perfect time to enter the trade in the direction of the breakout.
Using Bollinger Bands with Other Indicators
The Bollinger Band can be used in combination with other indicators. For instance, the confirmation of trading signals could be obtained by combining it with the Relative Strength Index (RSI) or Moving Average Convergence Divergence (MACD). For example, if the price breaks out of the bands, you can check if the RSI is in an overbought or oversold condition to get a clearer picture of potential trade direction.
Important Rules for Trading using Bollinger Bands
John Bollinger has outlined a few important rules to apply his indicator properly:
- Relative High and Low: Price is high when it touches the upper band and low when it touches the lower band.
- Breakouts as Continuations: A close outside the bands typically signals a continuation, not a reversal.
- Volume Confirmation: A breakout accompanied by high volume is more likely to result in a strong trend continuation.
- Avoid Over-Reliance: Bollinger Bands are most effective when combined with other indicators and price action analysis.
Conclusion: Bollinger Bands in Practice
Bollinger Bands are a versatile and powerful tool for traders looking to measure market volatility and identify potential trends. Understanding how to set up and apply these bands in different market conditions can help enhance your trading strategy. Whether you’re using them as a breakout signal or a rotational strategy, Bollinger Bands offer valuable insights into market behavior. Always remember to combine them with proper risk management and other technical indicators for the best results.
