Exploiting Bollinger bands

Exploiting Bollinger bands


John Bollinger discovered that his variation to the standard deviation band, was not a stand alone indicator, but signalled trading opportunities that could be then confirmed by other bought/sold indicators, such as RSI and MACD.
One of his more popular methods was, if the upper band was reached and the RSI (9) was below 70, the trend was strong and new highs were to come, on the other hand, if the bottom band was reached and the RSI (9) was above 30 then new lows were on the horizon.

So reading between the lines in the above method, if RSI was above 70 reaching overbought and the upper band touched then it was a signal to cover long positions or at least tighten stops, the reverse for the bottom band.

This week we are going to fine tune their use with a simple method that can often produce some fantastic trading opportunities.

Following the Pros.

Professional traders use a technique called Fading the trend, this is when price is gaining momentum and approaching the upper boundaries of a trading channel, and the amateurs are being drawn to this momentum like moths to a flame and bid higher to get a piece of the action.
The professionals then Fade the trend and sell into the strength, often leaving the amateurs stranded at the peak.
This strategy is a low risk technique for the professional trader, armed with large accounts and very tight stops; their winners far outweigh the losers.

We are going to use Bollinger bands in attempt to join the Pros in picking these wild swings in emotion.
History has shown us that price will deviate back and forth from its average with repeatable accuracy.
So what we are looking for is the professional fading the amateur, as the amateur bets on a new trend emerging, as it breaks out of the trend channel

So what we are after is, a close outside the channel and then an immediate reversal back into the channel. This picks up on the dramatic change in sentiment, which often results in short term panic from the novice trader.

This market phenomenon usually produces one-day reversal patterns such as open close reversal, One-day island reversal and dragonfly dojis.

Once the reversal day is identified, we use the high of this day as the buy trigger and the last minor low as the stoploss point. For further confirmation, we can look to the RSI or MACD to see if they show a divergence, which would signal a very low risk high reward opportunity.