Bollinger Bands® indicator Forex trading guide

Indicators play an important role in technical analysis. There are leading and lagging indicators. Leading indicators predict reversals and beginnings of new trends. Lagging indicators follow prices and make information easily digestible for traders. Forex Bollinger Bands® indicator is a lagging one.

Bollinger Band indicator overview

Bollinger Bands are highly customizable and traders can alter the timeframes and number of standard deviations to fit their strategies. Let’s look at some core features of Bollinger Bands indicator for FX trading:

• Bollinger Bands is a lagging indicators that is used to generate overbought and oversold signals
• Bollinger Bands indicator for trading Forex typically uses a 20-day moving average, but this is subject to customization
• Bollinger Bands indicator FX traders use is plotted on the price chart, unlike many other indicators, that are plotted below the price chart
• Forex trading Bollinger Bands indicator is composed of two bands and a simple moving average (SMA)
• A range of other indicators can be used alongside Bollinger Bands, such as MACD, RSI and the stochastic oscillator

Technical details of Bollinger Bands

Bollinger Bands are a relatively simple indicator that uses a standard 20-day moving average of the price of an asset and plots two bands that are two standard deviations away (positively and negatively) from the moving average.

How Bollinger Bands work

Bollinger Bands are quite popular due to their highly visual and relatively simple technique. When the two bands are plotted against the moving average, they act as support and resistance levels for the price:

• If the price continuously touches the upper band, this can be an indicator of an upcoming bearish trend due to the asset being overbought
• If the price continuously touches the lower band, this can indicate an upcoming bullish trend due to the asset being oversold

Standard deviations are volatility measures, therefore, when volatility increases, the bands tighten, and vice versa.

When the two Bollinger Bands get close to each other, they start squeezing the moving average. The squeeze is often seen as a signal of low volatility and a sign for future increase in volatility. On the other hand, when the bands move away from each other, this represents an opportunity for volatility to decrease and traders can exit the market.

Calculating Bollinger Bands

Bollinger Bands can be calculated using the following formula:

BOLU = MA (TP, n) + m * σ [TP, n]

BOLD = MA (TP, n) – m * σ [TP, n]

Where:

BOLU = the upper Bollinger band

BOLD = the lower Bollinger band

MA = moving average

TP = typical price = (High + Low + Close)/3

N = number of days in smoothing period (20)

M = number of standard deviations (2)

σ [TP,n] = the standard deviation over last n periods of TP

Bollinger Band signals

An important application of Bollinger Bands is to find signs of non-confirmation after the price reaches new highs. This can happen in a three-step process:

• An asset creates a reaction above the upper Bollinger Band
• A pullback happens toward the middle band
• Price moves above the prior high but fails to touch the upper Bollinger Band

The inability of the price to reach the upper band for the second time may signal a reversal. This creates a double-top pattern on the chart with an M shape.

The confirmation of new lows is a four-step process:

• The price forms a reaction low, which may or may not be below the lower Bollinger Band
• The price bounces towards the middle band
• The price reaches a new low
• The pattern is confirmed by a strong move from the second low – forming a breakout

Limitations of Bollinger Bands

Bollinger Bands may not be as effective as a standalone indicator. The indicator uses a simple moving average, which treats the data from all periods with the same weight. The 2 standard deviations may also be arbitrary and may not apply to every scenario and trading strategy.

Practical application of Bollinger Bands

For traders to better understand how Bollinger Bands and the double-top/double-bottom confirmations work with the indicator, let’s look at Bollinger Bands indicator example.

EUR/USD

As we can see from the chart, Bollinger Bands can help confirm M and W formations, which are automatically applied to the chart above. Confirmations can help traders decide when to open long and short positions, and how and when a trend may form a breakout on the market.

History and other useful details of Bollinger Bands

Bollinger Bands were created and copyrighted by John Bollinger in the early 1980s. The need to create the indicator stemmed from a widely-believed incorrect notion that volatility was static.

Bollinger Bands can be used across different asset classes, such as stocks, forex, commodities, crypto, etc.

Most time frames are applicable to Bollinger Bands, such as hourly, daily, weekly, or monthly.

FAQs on Bollinger Bands in forex

Is Bollinger Bands a good indicator?

Bollinger Bands are a popular technical indicator, which uses two bands and a simple moving average of an asset’s price to generate buy and sell signals for traders. Bollinger Bands can be effective when used alongside oscillators such as the RSI, MACD, or stochastic.

Is Bollinger Bands indicator accurate?

Bollinger Bands are unlikely to be effective when used on their own. It is advisable for the MACD to be used alongside Bollinger Bands. Otherwise, the indicator may not work in every situation, as the 20-day MA and 2 standard deviations are standard metrics that are not fit for every occasion and strategy.

Is Bollinger Bands indicator useful in forex?

Bollinger Bands can be highly effective when used in conjunction with momentum indicators, and can generate overbought and oversold signals that can be relatively reliable when used accordingly.