Lesson 2: Bollinger Bands

Standard Deviations and Bollinger Bands®

Overview

  • Standard deviations are a statistical unit of measure describing the dispersal pattern of a data set.
  • By definition, one standard deviation includes about 68% of all data points from the average in what is referred to as a normal distribution pattern, while two standard deviations include about 95% of all data points.
  • When working with Bollinger Bands, it is not necessary for you to calculate standard deviations yourself. You need only understand the theory of how standard deviation sets the range for a dispersal of rates when compared to the moving average, and how this information is used to determine buy and sell channels in the chart.

Buy and Sell Channels

  • The area between the moving average line and each band produces a range, or channel.
  • The area above the moving average is referred to as the buy channel as spot rates displayed in this region remain higher than the moving average and suggest upward momentum.
  • Conversely, spot rates falling below the moving average are in the sell channel as the spot rate is declining more rapidly than the moving average which suggests that the exchange rate has downward momentum.
  • In the following example, the rate continued to trend upwards through the buy channel until the week of March 1st where it began to retreat, moving closer to the average rate line.
  • This is a clear indication that the average rate and the spot rate are converging which means that the trend momentum is slowing and a reversal could result.
  • When spot rates fall above or below the bands, it is referred to as "breaking the bands" and this event has its own significance which we'll discuss later.


Bollinger Bands
Sample Bollinger Band chart

This is for general information purposes only - Examples shown are for illustrative purposes and may not reflect current prices from OANDA. It is not investment advice or an inducement to trade. Past history is not an indication of future performance.

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