This indicator’s name is dervied from the famous analyst John Bollinger. Showing trending markets, this indicator identifies key areas of support and resistance and thus the best places to purchase call options in the case of a rising trend, or purchase put options during a falling trend.
There are technically three bands in the Bollinger Bands indicator, however the central one is quite tricky as sometimes, brokers will show it as a 20 period Simple Moving Average, while other brothers will show it as a 20 Exponential Moving Average period.
The usual way to interpret Bollinger Bands is that when the asset’s price stays within the upper and the middle Bollinger Band, this shows a market trend to the upside. Conversely, if the price only moves between the middle and the lower Bollinger Band, the market is shown to have a trend to the downside. This can be traded by placing a call option in an uptrend once the price is close to touching the middle Bollinger Band and by placing put options in a downtrend once the price is close to the middle Bollinger Band.
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Choosing Appropriate Expiration Dates
The expiry dates are only depending upon the time at which the indicator is placed. As a trend indicator, it can be used to sell the spike or buy the dip during bearish or bullish markets, with the best course of action being to purchase call options at the point that the EMA is tested during bullish trends and to purchase put options at the point that the EMA is tested during a bearish trend.
Another strategy which works well with Bollinger Bands is splitting up an investment to several parts. The key to doing this is to apply the indicator to the hourly chart of the asset to trade in order to find the ideal strike price for the option. The resulting channel should then be divided into several parts i.e. in a bullish trend, the channel’s lower side should be divided into three sections of equal distance. Following this, the investment amount should be split into 4 separate parts, one of each call option that will be traded at these four levels. The first option’s expiry date by the time the asset’s price reaches the EMA should be larger than the other options’ expiry dates as prices will usually jump more aggressively as it dips more in a bullish trend. In the case of a bearish trend, the opposite holds true, although of course instead of trading call options, the trader should execute put options.
The use of Bollinger Bands is especially effective in a trendless market. Here, the oversold and overbought readings will be more potent as there are competing forces which pull the market towards both directions. In a trendless market, an aggressive trader is able to use the overbought readings to purchase put options and the oversold readings in order to purchase call options.
How Economic News Affects Bollinger Bands
Trading can be tricky as markets often do not trend too much. Therefore, when observing trend indicators, you may wish to avoid cross pairs as they travel less than majors as this means that the risks of overtrading become less. When trying to fade a move (i.e. buy the dips and sell spikes) the ideal time is when some major economic news is likely to be imminently released. Economic news releases from the United States and any other major world economies will have an influence on the financial global markets as most products that are offered for trade by binary options brokers are formed by equity indices and currency markets from the most developed economies in the world.
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- Investment information content in Bollinger Bands?. Applied Financial Economics Letters Lento C, Gradojevic N, Wright CS., 2007 Jul 1;3(4):263-7
- Using bollinger bands. Stocks & Commodities (PDF)Bollinger, J. (1992), 10(2), 47-51