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Bollinger Bands are a technical analysis tool based on moving averages. They include two bands, an upper band two standard deviations above the price moving average, and a lower one which falls two standard deviations below it. The envelope or band narrows in times of low volatility and widens when prices fluctuate. They can be used with equities, forex or any other assets.
Bollinger Bands involve the interaction of price and volatility. Visually, they appear as an envelope around the price line which grows and shrinks over time. Depending on your trading strategy, you may use the bands to enter trades when the price is close to either the bottom band (assuming a reversal) or the top (assuming an uptrend). Interpreting bands is not always obvious and it is possible to have contradictory interpretations of the same movement.
Around 90% of the time, the price of the underlying asset remains between the two bands. This means breakouts in either direction are significant events that require special caution. Often breakouts occur when volatility suddenly spikes after a long period of low volatility with narrow bands.
Upper band = MA(TP,n)+m∗σ[TP,n]
Lower band = MA(TP,n)−m∗σ[TP,n]
MA = Moving average
TP (typical price) = (High+Low+Close)÷3
n = Number of days in average period (normally 20)
m = Number of standard deviations (normally 2)
σ[TP,n] = Standard Deviation over last n periods of TP
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