Although Bollinger bands is one of the most used
and reliable indicators to determine trends and breakouts. You should use it in
combination with other indicators such as the Parabolic SAR which indicates
price reversal and the Stochastics oscillator which indicates momentum. These
other indicators will help you determine whether the signals provided by the
Bollinger Bands are in fact good.
Bollinger Bands (BB)
As we discussed in previous posts, the BB is made
from 3 bands: the lower, the middle, and the upper BBs. The middle band is
comprised of your commonly used 20-day Simple Moving Average. The
"juice", however, is in the upper and lower bands since they will
indicate your trading signals. Depending on your setup, the BBs will show the
price moving within a range, what is the range of the price 85-90% of the time.
By knowing the range within which the price is
moving during a consolidation, you can buy or go long when the price hits the
lower band and, conversely sell or go short when the price hits the upper band.
Another signal for the BB is when the price breaks through the bands which
usually indicate the beginning of a trend in the direction of the breakout.
The Bollinger Bands also help determine the
volatility of the market. In a nutshell, a squeeze or narrow band width show a
period of low volatility and usually indicates that a surge is impending and,
therefore, a strong move in price is about to occur.
You should never use Bollinger bands alone to make
your trading decisions. Use the BBs in conjunction with your trend or Fibonacci
indicators to make a killer combination to successful trades.
Stochastic
Stochastic measures the momentum of the currency
pair. The plot range for Stochastic goes from 0 to 100. When the Stochastic
goes over 80 that usually indicated that the market is overbought and that a
downtrend is about to develop. Conversely, when the Stochastic goes under 20
that may indicate that the market is oversold, and an uptrend may be starting
to develop. Obviously, at 50 the Stochastic would indicate that the price is
flat and there's no movement. Keep in mind that, unlike other indicators, the
Stochastic indicator does not signal the highest or lowest price level, but
rather a possible reversal of price direction. Like any other indicator, the
Stochastic oscillator should be used with other indicator to assist you with
your trades.
Parabolic Stop and Reverse (SAR)
The Parabolic SAR one of the most used indicators
to help determine a reversal in price. As a rule of thumb, traders go long or buy
when the Parabolic SAR dots go below the price line and the opposite is true
when the Parabolic SAR dots go above the price line indicating a sell signal.
Always keep in mind that this indicator only works when the currency pair is
trending and will not produce reliable signals if the currency is consolidating
or, in other words, a flat market.
Conclusion
Use your chart setup to determine a trend whether
you use Fibonacci, MACD, candlesticks, line charts, or any other trend
indicator of your liking. Corroborate your entry and exit points with
indicators like the ones outlined above and your chances of a successful trade
increase dramatically.
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