The use of Bollinger Bands varies widely among traders. Some traders buy when price touches the lower Bollinger Band and exit when price touches the moving average in the center of the bands. Other traders buy when price breaks above the upper Bollinger Band or sell when price falls below the lower Bollinger Band.[4] Moreover, the use of Bollinger Bands is not confined to stock traders; options traders, most notably implied volatility traders, often sell options when Bollinger Bands are historically far apart or buy options when the Bollinger Bands are historically close together, in both instances, expecting volatility to revert towards the average historical volatility level for the stock.
When the bands lie close together, a period of low volatility is indicated.[5] Conversely, as the bands expand, an increase in price action/market volatility is indicated.[5] When the bands have only a slight slope and track approximately parallel for an extended time, the price will generally be found to oscillate between the bands as though in a channel.
Traders are often inclined to use Bollinger Bands with other indicators to confirm price action. In particular, the use of oscillator-like Bollinger Bands will often be coupled with a non-oscillator indicator-like chart patterns or a trendline. If these indicators confirm the recommendation of the Bollinger Bands, the trader will have greater conviction that the bands are predicting correct price action in relation to market volatility
Effectiveness[edit]
Various studies of the effectiveness of the Bollinger Band strategy have been performed with mixed results. In 2007 Lento et al. published an analysis using a variety of formats (different moving average timescales, and standard deviation ranges) and markets (e.g., Dow Jones and Forex).[6] Analysis of the trades, spanning a decade from 1995 onwards, found no evidence of consistence performance over the standard "buy and hold" approach. The authors did, however, find that a simple reversal of the strategy ("contrarian Bollinger Band") produced positive returns in a variety of markets.
Similar results were found in another study, which concluded that Bollinger Band trading strategies may be effective in the Chinese marketplace, stating: "Finally, we find significant positive returns on buy trades generated by the contrarian version of the moving-average crossover rule, the channel breakout rule, and the Bollinger Band trading rule, after accounting for transaction costs of 0.50 percent."[7] (By "the contrarian version", they mean buying when the conventional rule mandates selling, and vice versa.)
A paper from 2008 uses Bollinger Bands in forecasting the yield curve.[8]
Companies like Forbes suggest that the use of Bollinger Bands is a simple and often an effective strategy but stop-loss orders should be used to mitigate losses from market pressure.
