Bollinger Band Definition
The Bollinger Band is a powerful statistical analysis technique used in trading and investing, including crypto markets. Its main function is to provide relative definitions of high and low prices of a market. Named after its creator, John Bollinger, it uses a set of trendlines plotted two standard deviations (positively and negatively) away from a simple moving average (SMA) of a security’s price.
Bollinger Band Key Points
- Bollinger Bands consist of three lines: the Simple Moving Average (SMA), an upper band, and a lower band.
- The upper and lower bands are set two standard deviations away from the SMA as default but the number of deviations can be adjusted.
- They are used to measure volatility and relative price levels over time.
- According to John Bollinger, periods of low volatility are often followed by periods of high volatility.
- Traders use Bollinger Bands to identify overbought or oversold conditions, price level volatility, and potential breakouts or price level reversals.
What Is Bollinger Band?
Bollinger Band is a channel that moves above and below a two-dimensional plot of price along with its moving average. The upper and lower bands are formed by adding and subtracting a standard deviation to and from the moving average, respectively. Thus, these bands contract and expand in response to price movement, creating a dynamic envelope around price.
Why Bollinger Band Is Used?
Bollinger Band is used for several reasons. It helps traders to identify periods of high and low volatility, detect potential tops and bottoms in an asset’s price, and can provide indications of potential price breakouts. Furthermore, when price reaches or crosses the bands, it could suggest the asset is overbought or oversold and could potentially reverse its trend.
Where Bollinger Band Is Used?
Bollinger Bands are used in various trading and investment markets, including stock markets, forex markets, commodity markets, and cryptocurrency markets. Its universal applicability is due to the fact that it works on all timeframes, from very short-term periods to weekly, monthly, and yearly charts.
When Bollinger Band Is Used?
Bollinger Band is most useful during periods of significant price movement. When markets are quiet, the bands contract to contain prices. As volatility increases, the bands widen to accommodate larger price swings. They are also particularly useful during trending markets, where traders can use them to identify potential reversal points or breakout levels.
How Bollinger Band Works?
The Bollinger Band works on the basic statistical principle of standard deviation. The middle line in the band is the simple moving average, usually a 20-day period is selected for this. The upper and lower bands are calculated by adding and subtracting (respectively) a certain number of standard deviations from this average. When price touches the upper band, it’s considered overbought, and when it touches the lower band, it’s considered oversold. This often prompts traders to buy or sell accordingly.
