The 15 Rules of Bollinger Bands
The 15 Rules of Bollinger Bands
- Bollinger Bands provide a
relative definition of high and low.
- That relative definition can
be used to compare price action and indicator to arrive at rigorous buy
and sell decisions.
- Appropriate indicators can be
derived from momentum, volume, sentiment, open interest, inter-market
data, etc.
- Volatility and trend have
already been deployed in the construction of Bollinger Bands, so their use
for confirmation of price action is not recommended.
- The indicators used for
confirmation should not be directly related to one another. Two indicators
from the same category do not increase confirmation. Avoid colinearity.
- ollinger Bands can also be
used to clarify pure price patterns such as M-type; tops and W-type
bottoms, momentum shifts, etc.
- rice can, and does, walk up
the upper Bollinger Band and down the lower Bollinger Band.
- Closes outside the Bollinger
Bands can be continuation signals, not reversal signals--as is
demonstrated by the use of Bollinger Bands in some very successful
volatility-breakout systems.
- The default parameters of 20
periods for the moving average and standard deviation calculations, and
two standard deviations for the bandwidth are just that, defaults. The
actual parameters needed for any given market/task may be different.
- The average deployed should
not be the best one for crossovers. Rather, it should be descriptive of
the intermediate-term trend.
- If the average is lengthened
the number of standard deviations needs to be increased simultaneously;
from 2 at 20 periods, to 2.1 at 50 periods. Likewise, if the average is
shortened the number of standard deviations should be reduced; from 2 at
20 periods, to 1.9 at 10 periods.
- Bollinger Bands are based
upon a simple moving average. This is because a simple moving average is
used in the standard deviation calculation and we wish to be logically
consistent.
- Be careful about making
statistical assumptions based on the use of the Standard deviation
calculation in the construction of the bands. The sample size in most
deployments of Bollinger Bands is too small for statistical significance
and the distributions involved are rarely normal.
- Indicators can be normalized
with %b, eliminating fixed thresholds in the process.
- Finally, tags of the bands
are just that, tags not signals. A tag of the Upper Bollinger Band is NOT
in-and-of-itself a sell signal. A tag of the lower Bollinger Band is NOT
in-and-of-itself a buy signal.
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