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Unformatted text preview: harp moves, penetration of the bands is normal. If prices appear to penetrate the outer bands too often, then a longer moving average may be required. If prices rarely touch the outer bands, then a shorter moving average may be required. A more exact method to determine moving average length is by matching it with a reaction low after a bottom. For a bottom to form and a downtrend to reverse, a security needs to form a low that is higher than the previous low. Properly set Bollinger Bands should hold support established by the second (higher) low. If the second low penetrates the lower band, then the moving average is too short. If the second low remains above the lower band, then the moving average is too long. The same logic can be applied to peaks and reaction rallies. The upper band should mark resistance for the first reaction rally after a peak.</p> <p>In addition to identifying relative price levels and volatility, Bollinger Bands can be combined with price action and other indicators to generate signals and foreshadow significant moves: </p> <p>Double bottom buy: A double bottom buy signal is given when prices penetrate the lower band and remain above the lower band after a subsequent low forms. Either low can be higher or lower than the other. The important thing is that the second low remains above the lower band. The bullish setup is confirmed when the price moves above the middle simple moving average. </p> <p>Double top sell: A sell signal is given when prices peak above the upper band and a subsequent peak fails to break above the upper band. The bearish setup is confirmed when prices decline below the middle band.</p> <p>Sharp price changes can occur after the bands have tightened and volatility is low. In this instance, Bollinger Bands do not give any hint as to the future direction of prices. Direction must be determined using other indicators and aspects of technic#al analysis. Many securities go through periods of high volatility followed by periods of low volatility. Using Bollinger Bands, these periods can be easily identified with a visual assessment. Tight bands indicate low volatility and wide bands indicate high volatility. </p> <p>Again, although Bollinger Bands can help generate buy and sell signals, they are not designed to determine the future direction of a security. The bands were designed to augment other analysis techniques and indicators. By themselves, Bollinger Bands serve two primary functions:</p> <font size="-2"></font> To identify periods of high and low volatility<br/> <font size="-2"></font> To identify periods when prices are at extreme, and possibly unsustainable, levels. <br/> <p>As stated above, securities can fluctuate between periods of high volatility and low volatility. Being able to identify a period of low volatility can serve as an alert to monitor the price action of a security. Other aspects of technical analysis, such as momen...
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This note was uploaded on 11/10/2010 for the course REFERENCE reference taught by Professor Alex during the Spring '10 term at Chowan University.
- Spring '10