Bollinger Bands explained: What are Bollinger Bands in Binary Options

Bollinger Bands are a technical indicator created by John Bollinger that have multiple uses, including forecasting volatility, reversals, trend continuations and profit targets. Bollinger Bands are frequently used as indicators in many markets.


Bollinger bands are defined by three curves. The first curve calculates the moving average of a binary option’s price over period X, and two other curves are found on either side of the moving average, each located at a distance that is twice the standard deviation over periods X, on which the moving average was calculated. The idea of standard deviation is a statistical concept used to summarize data. In trading softwares, it is called a bell curve.

This creates the appearance of the price moving within an envelope, and the envelope widens during times of volatility and contracts during sedate markets. In fact, as volatility increases, this makes the standard deviation larger and therefore the bands expand. When the market is quiet, the bands contract since the standard deviation gets smaller.

The direction of the Bollinger Bands also plays a role in how useful they are. If the Bollinger bands are angled either up or down they are less useful indicator of whether a reversal is likely to occur. However if the Bollinger Bands are sideways they are more clear indication of where price maybe heading.


Bollinger Bands Example

a)    The upper band which serves as a resistance band in range-bound markets.

b)    The middle band which has a neutral bias in the sense that it can function as a resistance for price action coming from the lower band, or as a support for prices coming from the upper band.

c)     The lower Bollinger band which serves as a support band, especially in range-bound markets.

You will find the most common setting of the bands to be (20,2). This means the moving average in the middle of the band is 20-period moving average. Furthermore, it means that the upper and lower bands are two standard deviations from the moving average. This provide usan important fact:  the price is 96% of the time between the two bands. When the price touches or moves outside a band, it’s potentially a noteworthy event and may provide some insight into what the price will do next.

Traders can alter these settings to suit their own strategies or market, but Bollinger did note that using less than 10 periods is not likely to work well.

Bollinger Bands can be used to signal whether it is the right time to enter a binary options trade. If the price of the binary option has gone below the lower standard Bollinger Band then this may indicate a good time to buy. The price should not stay outside of the lower Bollinger band indefinitely and thus will rise again towards the mean. At the upper extreme, when the price breaks through the Bollinger Band it may indicate that it is a good time to lock in profits and sell.

It should also be noted that the longer the moving average and the larger the standard deviations, the more specific the predictions will be. To trade binary options with Bollinger bands successfully, you must train yourself to define the momentum when the rate stabilizes toward its moving average. No indicator is perfect, but if you utilize price trends as well as monitor Bollinger Bands, hopefully you can find yourself more often in-the-money. Thus, you can achieve success in 95% of your transactions.


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