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Understanding how Bollinger Bands work

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The financial market is a complex one if you take into account the technical analysis involved. On the surface, trading seems simple because it involves buying or selling financial instruments. But traders need to understand the market dynamics and factors that influence these instruments. 

Bollinger Bands are among the technical analysis tools that traders use, in order to make their trading decisions more based. It is a relatively old technique used in trading but not so popular among many new traders. 

What are Bollinger Bands?

This is a trading tool that was developed by John Bollinger back in the 1980s. It was developed for trading stocks. It has a volatility indicator that shows the highs and lows of a security in relation to its previous trades. 

Bollinger Bands measure volatility using standard deviation. This can change when there is an increase or decrease in volatility. You will know that there is a price increase when the bands widen and a decrease in price when they narrow. 

Bollinger Bands are dynamic and can be applied by traders of various securities in the financial markets. 

How do Bollinger Bands work?

It is easy to understand how they work when you know the following:

  • Bands tighten during a period of low volatility that indicates a sharp price movement in either direction.
  • When there is a large separation, there is a likely increase in volatility, which may indicate an ending trend.
  • There is a tendency of prices bouncing within the bands’ envelopes. These swings can be used to identify profit targets.
  • If the price moves outside the fields, a strong trend may continue. 

3 things you should know about Bollinger Bands 

Just like any other technical analysis tool, the Bollinger Bands have important qualities that every trader should know. Here is a summary of the three most important things to know. 

You can adjust the setting to reflect three standard deviations 

There are three lines representing different types of analysis that can help you to analyze the market when using Bollinger Bands for online trading. The upper and the middle ones can show +2 and -2 standard deviation. The third can be used to indicate the 20-period moving average. 

A squeeze indicates low volatility 

The Bollinger Bands show continual changes in market volatility from low to high volatility. A breakout is perfect when the market is in low volatility. If you are trading online, you can identify this using the squeeze. When they contract, the squeeze occurs. The more intense it is, the more powerful a breakout is likely to be.  

Bollinger Bands don’t tell the direction of a breakout Bollinger Bands are great at identifying breakout points in the financial market. But they do not show the direction of the breakout. Fortunately, you can rely on market trends to tell the direction of the breakout. But you should be careful when using the market trends. Combine it with other factors as well, to get a more accurate view.


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