Using Barchart and Bollinger Bands® to Spot Long Term Trends
More Tips from Experts
By: Shane Wisdom of Wisdom Financial, Inc.
The Bollinger Band® was developed by John Bollinger in the 1980s to measure an overbought or oversold condition in the market. The Bollinger Band® basically consists of 3 lines: an upper band that defines resistance, a lower band that defines support, and a middle band that defines the trend. The sensitivity of the Bollinger Band® is defined by the period or number of days that the indicator references. For example, a 10 period Bollinger Band® is going to be much more reactive to price than a 100 period Bollinger Band®.
Trend Following vs. Counter Trend
Many traders use Bollinger Bands® to find turning points in the market, buying when price hits the lower band and selling when price hits the upper band. In range bound markets, this will typically work well as price travels between the bands and may give traders several opportunities to pick tops and bottoms.
However, as markets start to break out of the trading range and move into a trending environment price will often "walk the band" as momentum picks up and a directional trade ensues. Traders that are caught in that mode of trying to pick tops and bottoms are faced with a difficult series of losing trades or even worse an ever mounting loss as price moves further and further away from the old trading range.
The Set Up
With this set up, we’re looking for price to close outside of the upper or lower band, esentially a “breakout” of the current trading range as defined by the Bollinger Band®. When this happens, we want to take a trade in the direction of the breakout as a new trend appears to be starting.
Each trade that we enter has a predetermined amount of risk measured by the close of the market price on the day of the breakout to the middle Bollinger Band®, or moving average. This value should be considered for money management purposes and determining how many contracts you can buy or sell in your account. In volatile market environments, trade risk will be higher suggesting you should trade conservatively. The middle Bollinger Band® acts as our trailing stop and if price closes below the middle band we exit the trade.
Shane Wisdom is President of Wisdom Financial, Inc. an independent introducing brokerage firm located in Newport Beach, CA. Shane specializes in working with trend following systems and trend following traders around the globe. Mr. Wisdom can be reached directly at:
800.854.6354 Toll Free