The notion of buying low and selling high always encompasses comparison, but what should we compare prices to? Bollinger bands presents tools that will help you answer that question with solid statistical analysis--especially if you use them in the right method. One unique strategy for using Bollinger bands as buy signals actually uses the bands in an unconventional method, but does so rather profitably. In this article, you will learn how you can utilize the outside of Bollinger bands to ascertain great buying opportunities.
The bands in Bollinger bands are used to indicate volatility measures that are positioned over and below a moving average. The volatility measure is based upon the standard deviation. Since the standard deviation changes with the change in volatility, the Bollinger bands broaden with increase in volatility and narrow with decrease in volatility. Hence, it is possible to use Bollinger bands on various securities with the standard settings due to their dynamic design. To use the technique mentioned in this article, the default settings of Bollinger bands need to be changed.
A lot of charting packages can make the adjustments to Bollinger bands mentioned here, but if you don't have one that can do this, or if you don't know where to begin, try out freestockcharts.com. For the charting examples in this post, we have used the same website.
There are four steps that you need to do:
1. As a proxy for the trend, a moving average price must be used. It is has been proven through back testing results that a 44-period simple moving average works well with this method. But it's not the only one. Any moving average between 40-periods and 100-period moving averages will work effectively. Trade only in the direction of the slope of this line, long when sloping up, short when sloping down.
2. Instead of the default 20-day average for normal trading, you need to use a 5-day average. We would like this for short term trading where we will trade from one week to three months.
3. Change the standard deviations to 1.4 to specify a region that includes 90% of normal prices in the last week. When making use of freestockcharts.com edit the Bollinger band indicator that you have applied. Adjust it from its default period of 20 to a 5 day period and a 1.4 standard deviation. Don't plot the center line.
4. When you see that the price is below the Bollinger band and the moving average is sloping upwards, it is a buy signal.
Let's have a look at two good examples:
This example is of the chart Disney (DIS), which is shown from January to March. As you can see that there were ten days in January when the price fell under the Bollinger bands.
After the price falls below the Bollinger band, the stock turns up and the price keeps rising. So, when the price falls under the bands, it is an entry signal. To replicate these indicators, you can use any charting package, which will allow you to edit the Bollinger band indicator that you have applied. As said before, you can do this by making use of freestockcharts.com. Do not plot the center line and alter the default period to 5 and the standard deviation to 1.4
You can quickly identify and use this signal. Clearly, throughout the above chart that after the price drops under the Bollinger band, it goes up in the next 5 trading days. The thing that you need to notice is that the moving average line is sloping up and this entry signal provides optimum usefulness if this condition is fulfilled.
Again referring to the chart, you would have been able to make a profitable trade, if you had bought on any of the ten days when Disney dropped below the Bollinger bands. As you can see that each trading signal had at least one day in the following week when the price went up more than it decreased. Furthermore, in the next two months Disney increased from the entry prices by approximately 12%.
Actually testing results for this signal show that if you enable a generous stop loss setting, (say three- to five-percent below entry), and you take profit whenever the price increases more than two percent from entry, that you will win this trade over 70 percent of the time. Furthermore, about 10 to 20 percent of the trades you come across will be occasions where you can let the trade run to your benefit beyond the initial two percent target. These rules turn the Bollinger bands from a curious indicator to an incredibly lucrative trading method.
The next example is the chart XHB (Homebuilders). Here it is shown from February to May. There are approximately 9 entry signals in the month of February alone where the price dips down below the Bollinger bands.
XHB went up approximately 10% in the following month for someone who bought this stock at any of the 9 entry signals in February. It is important in trading with this approach to ensure that you follow each step carefully and don't overlook tiny details. Notice in this example, around May 15 there is just such a detail. The 44-period moving average had sloped down.
Following the rule in the first step takes away the possibility of getting into a trade after May 15. This keeps you out of a downward trend in the market that could make you lose money. As soon as the moving average peaks and starts to turn over, exit your trades and do not get back into any, with this method, till the moving average line is again sloping up.
Bollinger bands is a sophisticated tool and people use it in many different ways. This method is ideal for people who want precise entry signals. Once more, you must ensure that you follow the four steps to the letter so you don't lose money. A 44-period simple moving average is ideally suited to be used in this method. Nonetheless, any moving average between 40-periods and 100-period moving averages will work almost as well as a proxy for the trend. You might not have heard about this unusual method of using Bollinger bands before, but this is a simple method that provides clear entry signals where you can buy and earn unusual profits.
The bands in Bollinger bands are used to indicate volatility measures that are positioned over and below a moving average. The volatility measure is based upon the standard deviation. Since the standard deviation changes with the change in volatility, the Bollinger bands broaden with increase in volatility and narrow with decrease in volatility. Hence, it is possible to use Bollinger bands on various securities with the standard settings due to their dynamic design. To use the technique mentioned in this article, the default settings of Bollinger bands need to be changed.
A lot of charting packages can make the adjustments to Bollinger bands mentioned here, but if you don't have one that can do this, or if you don't know where to begin, try out freestockcharts.com. For the charting examples in this post, we have used the same website.
There are four steps that you need to do:
1. As a proxy for the trend, a moving average price must be used. It is has been proven through back testing results that a 44-period simple moving average works well with this method. But it's not the only one. Any moving average between 40-periods and 100-period moving averages will work effectively. Trade only in the direction of the slope of this line, long when sloping up, short when sloping down.
2. Instead of the default 20-day average for normal trading, you need to use a 5-day average. We would like this for short term trading where we will trade from one week to three months.
3. Change the standard deviations to 1.4 to specify a region that includes 90% of normal prices in the last week. When making use of freestockcharts.com edit the Bollinger band indicator that you have applied. Adjust it from its default period of 20 to a 5 day period and a 1.4 standard deviation. Don't plot the center line.
4. When you see that the price is below the Bollinger band and the moving average is sloping upwards, it is a buy signal.
Let's have a look at two good examples:
This example is of the chart Disney (DIS), which is shown from January to March. As you can see that there were ten days in January when the price fell under the Bollinger bands.
After the price falls below the Bollinger band, the stock turns up and the price keeps rising. So, when the price falls under the bands, it is an entry signal. To replicate these indicators, you can use any charting package, which will allow you to edit the Bollinger band indicator that you have applied. As said before, you can do this by making use of freestockcharts.com. Do not plot the center line and alter the default period to 5 and the standard deviation to 1.4
You can quickly identify and use this signal. Clearly, throughout the above chart that after the price drops under the Bollinger band, it goes up in the next 5 trading days. The thing that you need to notice is that the moving average line is sloping up and this entry signal provides optimum usefulness if this condition is fulfilled.
Again referring to the chart, you would have been able to make a profitable trade, if you had bought on any of the ten days when Disney dropped below the Bollinger bands. As you can see that each trading signal had at least one day in the following week when the price went up more than it decreased. Furthermore, in the next two months Disney increased from the entry prices by approximately 12%.
Actually testing results for this signal show that if you enable a generous stop loss setting, (say three- to five-percent below entry), and you take profit whenever the price increases more than two percent from entry, that you will win this trade over 70 percent of the time. Furthermore, about 10 to 20 percent of the trades you come across will be occasions where you can let the trade run to your benefit beyond the initial two percent target. These rules turn the Bollinger bands from a curious indicator to an incredibly lucrative trading method.
The next example is the chart XHB (Homebuilders). Here it is shown from February to May. There are approximately 9 entry signals in the month of February alone where the price dips down below the Bollinger bands.
XHB went up approximately 10% in the following month for someone who bought this stock at any of the 9 entry signals in February. It is important in trading with this approach to ensure that you follow each step carefully and don't overlook tiny details. Notice in this example, around May 15 there is just such a detail. The 44-period moving average had sloped down.
Following the rule in the first step takes away the possibility of getting into a trade after May 15. This keeps you out of a downward trend in the market that could make you lose money. As soon as the moving average peaks and starts to turn over, exit your trades and do not get back into any, with this method, till the moving average line is again sloping up.
Bollinger bands is a sophisticated tool and people use it in many different ways. This method is ideal for people who want precise entry signals. Once more, you must ensure that you follow the four steps to the letter so you don't lose money. A 44-period simple moving average is ideally suited to be used in this method. Nonetheless, any moving average between 40-periods and 100-period moving averages will work almost as well as a proxy for the trend. You might not have heard about this unusual method of using Bollinger bands before, but this is a simple method that provides clear entry signals where you can buy and earn unusual profits.
About the Author:
Trading Bollinger bands can actually help you in buying low and selling high. If you fully understand how to interpret the bands effectively, then you can make lucrative trades whether you are trading stocks or forex. Click here and learn how you can utilize Bollinger bands to earn unusual profits.
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