John Bollinger, who developed the bands, is direct about what a band touch is not. Moves that touch or exceed the bands are not signals, he says, but "tags". A tag at the upper band shows strength, and strength is not a reason to sell.
That distinction decides which of the strategies below applies. Bollinger Bands measure volatility, and the same touch means continuation in a trend and exhaustion in a range.
What are Bollinger Bands
Three lines, calculated from one moving average:
- Middle band: 20-period simple moving average
- Upper band: middle band plus 2 standard deviations of price
- Lower band: middle band minus 2 standard deviations of price
The average is a simple one because the standard deviation formula uses a simple average, and both use the same look-back period.
What they measure
- Volatility: the bands widen as volatility rises and contract as it falls, because the standard deviation does
- Relative price: where the current price sits between the two bands
- Extremes: according to Bollinger the bands should contain 88% to 89% of price action, which is what makes a close outside them worth noticing
Standard settings
The defaults are a 20-period average and a multiplier of 2. Both are adjustable, and Bollinger ties them together: he suggests raising the multiplier to 2.1 for a 50-period average and lowering it to 1.9 for a 10-period average.
Change the period and the multiplier has to follow, because the period also sets the standard deviation window.
Key Bollinger Band concepts
The squeeze
What it is: the bands contract to a narrow width, which means volatility has fallen.
What it means: John Bollinger holds that periods of low volatility are often followed by periods of high volatility. StockCharts states the limit on that plainly: narrowing bands give no directional clue at all. They say a move is likelier, not which way it goes.
How to identify it: bandwidth near the low end of its six-month range. Narrow is relative to the security's own history, so a value that is low for one stock is normal for another.
The walk
What it is: price tags one band repeatedly without pulling back to the other.
An upper band walk sits inside an uptrend, and in a strong uptrend price may never reach the lower band. A lower band walk sits inside a downtrend, with no upper band tag for the duration. In StockCharts' example, one stock closed above the upper band at least five times across four months.
Inside a walk, the 20-period average sometimes acts as support, and dips to it are where trend traders look for a re-entry.
Mean reversion
What it is: price returning to the middle band after a tag of an outer band.
The concept has one condition attached. Price returns to the average in a range. In a trend it walks the band instead, which is why StockCharts warns that relatively high is not bearish and relatively low is not bullish. Prices are high or low for a reason.
Bollinger Band trading strategies
Strategy 1: the squeeze breakout
Setup:
- Find a squeeze, with bandwidth near the low of its six-month range
- Wait for the band break that ends it
- Take the trade in the direction of the break
Entry rules:
- Bandwidth at multi-month lows
- Price closes outside the squeeze range
- Volume expands on the break
- A support or resistance break confirms the band break. StockCharts states that unconfirmed band breaks are subject to failure
Stop loss: the opposite side of the squeeze range.
Target: the width of the squeeze, projected from the breakout level.
A hypothetical example, and a warning about the arithmetic. A stock consolidates between $48 and $52, so the squeeze is $4 wide. You enter at $52.50 on the break and set the stop at $47.50, below the other side of the range. Risk is $5.00 per share. A $4 target puts the exit at $56.50, so the reward is $4.00.
That is 0.8 to 1, and it needs a win rate above 55.6% to break even: 4w = 5(1 - w) solves at w = 0.556. The shortfall is structural rather than a bad example. Put the stop at the far side of the range and the target at the range width, and risk exceeds reward every time. The gap is the entry sitting above the breakout level, plus the stop sitting below the range low. Either tighten the stop toward the breakout level or measure a larger target. Check the number before you take the trade.
Strategy 2: mean reversion at the bands
Setup:
- Price tags or closes outside an outer band
- Wait for a reversal candle
- Take the trade toward the middle band
Entry rules at the lower band:
- Price tags or closes below the lower band
- The security is ranging or in an uptrend, not in a downtrend
- A bullish reversal candle forms
- RSI reads oversold
Entry rules at the upper band:
- Price tags or closes above the upper band
- The security is ranging or in a downtrend, not in an uptrend
- A bearish reversal candle forms
- RSI reads overbought
Stop loss: beyond the outer band. Target: the middle band, which is the 20-period average.
The trend filter is not optional here. Price can walk a band for months, and each tag during that walk is a loss for this strategy.
Strategy 3: band walk continuation
Setup:
- Price is walking the upper or lower band
- Wait for the pullback to the middle band
- Take the trade on the bounce from it
Entry rules for a long:
- Price has been tagging the upper band
- It pulls back to the 20-period average
- A bullish candle forms there
- The bands are still wide or still expanding
Stop loss: below the middle band. Target: the previous high, or the next upper band tag.
Strategy 4: the W-bottom at the lower band
This is the W-bottom from Arthur Merrill's work, read the way Bollinger reads it with his bands, and one detail is easy to get backwards.
Bollinger's four steps:
- A reaction low forms, usually below the lower band
- Price bounces toward the middle band
- Price makes a new low that is lower than the first, but holds above the lower band
- A move off that second low breaks resistance and confirms the pattern
Step 3 is the point. The second low is lower in price and stronger in position: holding above the band on a lower low is what shows the selling losing force. A second low that is higher in price is a different pattern.
Entry: on the resistance break. Stop: below the second low. Target: the upper band.
Combining Bollinger Bands with other indicators
StockCharts states that the bands are not a stand-alone tool and should be combined with trend analysis and other indicators.
Bollinger Bands and RSI
- Lower band tag plus RSI oversold: the two agree that price is low relative to its recent range. Neither says it will turn
- Upper band tag plus RSI overbought: the same reading in reverse
- RSI divergence at a band tag: the momentum warning and the price extreme land together, which is the case for the mean reversion setup rather than a signal on its own
Bollinger Bands and MACD
A MACD signal line cross at a band tag gives you a second condition on the same bar. In StockCharts' M-top example, the support break and a MACD move below the signal line arrived together and confirmed the top.
Bollinger Bands and volume
- Band tag plus a volume spike: participation behind the extreme
- Squeeze break plus heavy volume: the confirmed version of strategy 1
- Band walk with rising volume: participation still supporting the trend
Bollinger BandWidth indicator
What it is
BandWidth is one of two indicators Bollinger derives from the bands, the other being %B. It measures the percentage distance between the outer bands:
BandWidth = (upper band - lower band) / middle band x 100
Dividing by the middle band normalises the figure, so bandwidth can be compared across securities and timeframes.
How to use it
- Low bandwidth is the squeeze: volatility has contracted, direction unknown
- High bandwidth means volatility has expanded, which happens during a move rather than before it
- Bandwidth near the low of an eight to 12 month range is the reading StockCharts uses to define narrow for a given security
Low-volatility securities carry lower bandwidth readings than high-volatility ones, so the comparison is always against the same security's own history.
Common Bollinger Band mistakes
Mistake 1: fading band tags in a trend
Shorting upper band tags in an uptrend puts you against a walk that can run for months. Fade tags in ranges, follow them in trends.
Mistake 2: ignoring the trend
Mean reversion and band walk continuation are opposite trades on the same chart event. The trend decides which one is on, so the trend has to be defined first.
Mistake 3: missing the squeeze
A squeeze is quiet by definition and shows up as nothing happening. Bandwidth is the reading that makes it visible, which is why the indicator exists.
Mistake 4: changing the period without changing the multiplier
The period sets both the moving average and the standard deviation window, so the two settings are linked. Bollinger's own guidance is 2.1 for a 50-period average and 1.9 for a 10-period average, in small increments. Leaving the multiplier at 2 while moving the period is what produces bands that never get tagged, or bands that get tagged every week.
Bollinger Band quick reference
| Condition | Reading |
|---|---|
| Bands squeezing | Volatility contracted, direction unknown |
| Price at upper band, in a trend | Strength, and possibly a band walk |
| Price at upper band, in a range | Relatively high, which is the mean reversion case |
| Price at lower band, in a trend | Weakness, and possibly a walk down the band |
| Price at lower band, in a range | Relatively low, which is the mean reversion case |
| Bands expanding | Volatility rising, usually inside a move already underway |
| Price at the middle band | Price at its 20-period average |
Tracking Bollinger Band setups
The four strategies above are different trades that share one indicator. Their results have no reason to look alike, so averaging them together tells you nothing about any of them.
Build each one as its own strategy in Swingfolio. The rule builder carries Bollinger Upper Band, Bollinger Middle Band and Bollinger Lower Band as indicators, each with its own period and standard deviation. A rule can read "Price crosses above BB Upper (20, 2)", with the period and standard deviation typed into the rule. Assign each trade to the strategy it came from, and the strategy screen reports win rate, average R-multiple, trade count and total P/L for each, side by side. Start the 30-day trial and build the four before the next squeeze sets up.