This assumption is based on the statistical rule that about 95% of the data points will fall within two standard deviations of the mean for a normally distributed data set. Choosing two standard deviations provides a statistically significant measure of volatility while remaining practical for market analysis. The bands can adapt to changes in volatility, making them suitable for various market conditions. Using standard deviation and a simple moving average, it allows traders to spot overbought or oversold conditions, band squeezes and breakout opportunities. How traders use the Bollinger Band Width with other indicators depends on the strategy they are using.

Securities with low volatility will have lower BandWidth values than securities with high volatility. For example, the Utilities SPDR (XLU) represents utility stocks, which have relatively low volatility (see lower chart). The Technology SPDR (XLK) represents technology stocks, which have relatively high volatilities.

How to Make Better Trade Entries With Candlestick Patterns

• Note how this strategy is used on a very diverse basket of futures spanning several  different markets (energy, metals, equity indexes, and commodities) on data running from 2010 to 2020.
• Bollinger Bands, a popular tool among investors and traders, help gauge the volatility of stocks and other securities to determine if they are over- or undervalued.
• During trending markets, when the price pushes into one direction with long candlesticks, the Bollinger Bands ® widen, confirming the high level of volatility – a deviation from the normal price behavior.
• Bollinger Bandwidth serves as an outstanding filter to fine-tune these entries.

Keltner Channels use Average True Range (ATR), resulting in smoother, less reactive bands. Bollinger Bands typically use a Simple Moving Average for the middle band, while Keltner Channels often use an Exponential Moving Average. Many traders find Keltner Channels better for trend identification, while Bollinger Bands excel at volatility analysis. I’ve personally witnessed the power of this strategy in numerous markets. One particularly memorable instance occurred on the Gold daily chart, where price had been consolidating bollinger bands bandwidth in a narrow range for several weeks, causing the Bollinger Bands to contract significantly.

The price showed extreme strength and the price was even able to close outside the lower band. As we have learned, most of the candlesticks will fall inside the Bollinger Bands ®. Again, I do not want to get too technical, but a small excursion is important to understand the approach of the Bollinger Bands® indicator and why it is so powerful. As the name implies, Bollinger Bands® are price channels (bands) that are plotted above and below the price action. Sarah Edwards is a finance writer passionate about helping people learn more about what’s needed to achieve their financial goals.

US Dollar Index Trading Strategy Backtest and Futures Example

In his book, Bollinger on Bollinger Bands, John Bollinger refers to Bollinger BandWidth as one of two indicators that can be derived from Bollinger Bands (the other being %B).

Bollinger Bandwidth Indicator – 3 Trading Strategies

The bandwidth measures the width of the Bollinger Band and can be used as a tool to identify trends. The bands are created by plotting a simple moving average (SMA) and two standard deviations above and below the SMA. Bollinger Bands can be used to improve trading strategies in a number of ways.

Trading Strategies Using Bollinger Bands

Technical analysis focuses on market action — specifically, volume and price. When considering which stocks to buy or sell, you should use the approach that you’re most comfortable with. Bollinger Bands stand among the most valuable tools in technical analysis when used correctly. Their ability to adapt to changing market conditions makes them relevant across all markets and timeframes. Bollinger Bands use standard deviation to determine band width, which makes them more responsive to volatility spikes.

Bollinger bands outside of finance

Since further declines could occur, you can use this as a potential signal to sell or enter a short position. Market trends influence Bollinger Bands Width adjustments by causing the width to increase. When the market is trending and volatility is rising, the width indicator increases. On the other hand, when the market isn’t trending, the width value decreases.

Instead, HON clearly broke below the lower band to trigger a bearish signal in June 2007. Choosing the right trading journal is essential for traders wanting to analyze performance, refine strategies, and improve consistency. Trendlines can be great trading tools if used correctly and in this post, I am going to share three powerful trendline strategies with you. Especially when combined with other confluence factors such as higher timeframe support and resistance levels and other exhaustion signals. Next, the price moved all the way into the opposite Bollinger Bands ® and started trading outside the lower band.

When it rises, it means that the price is moving significantly up or down. Traders can use it to plan their trading strategies, especially breakout strategies. When we optimized the strategy, the sweet spot seemed to be a relatively short lookback period between 5 and 10 days. The indicator measures the percentage difference between the upper and lower Bollinger Bands. Most chart engines plot the indicator as an oscillator beneath the price chart. The “Squeeze” is when volatility falls to a very low level, causing the bands to narrow.

• This happens by looking at where the price is in relation to the Bollinger Bands indicator.
• An important component of the Bollinger Bands ® is the standard deviation.
• Therefore, it is an important indicator used to measure volatility in the financial market.
• By analyzing the bandwidth and price position relative to the bands, one can assess the likelihood of a trend continuation or a price reversal.

This structure provides an integrated view of direction, momentum strength, and the intensity of price changes. Analyzing the expansion and contraction dynamics of the bands is crucial for identifying the initiation points of strong price moves. In practice, this indicator calculates the relative width of the bands based on the middle moving average; the larger it is, the higher the volatility and the wider the bands. Andrea Unger and Unger Academy can not and do not make any guarantees about your ability to get results or earn any money with our ideas, information, tools, or strategies.

Therefore, in most cases, the Bollinger Bandwidth will not show you a signal of when to buy or sell an asset. Instead, it will guide you to be prepared of what will happen in the coming days. Because of how it works, the Bollinger Bandwidth does not have a close resemblance to Bollinger Bands. Futures, futures options, and forex trading services provided by Charles Schwab Futures & Forex LLC. Access to real-time market data is conditioned on acceptance of the exchange agreements.

Its implementation in day-to-day trading leverages the ability to gauge the market’s swings and consequently, perfecting market strategies. Because the bands are two standard deviations from the SMA, they show when prices are statistically high or low. Many traders consider the area near the upper band to be overbought territory—the price is poised to fall—and a potential resistance level where sellers may step in. Conversely, the area near the lower band is often seen as oversold—the price is poised to go up—and a potential support level where buyers could enter the market.