Bollinger bands are forex trading technical tools made up of two bands used in signaling changes in the volatility of market prices. Basically, Bollinger bands are essential tools used in the identification of overbought and oversold levels.
Forex traders use these bands to know when to buy or sell an instrument in the forex market. The idea is to sell when the price of a currency or security reaches the upper Bollinger band and subsequently buy when the price dashes at the lower Bollinger band.
Therefore, it is a clear tool
Understanding How Bollinger Bands Work
Bollinger bands, as mentioned above, are made up of two bands which consist of the upper and lower band. These bands are positioned at a distance of two standard deviations from a financial instrument’s (currency pairs) 21-day SMA (Simple Moving Average).
This means that the Bollinger bands give information on the volatility of an instruments price with regards to the SMA. Forex traders can always expect price volatility between the upper and lower Bollinger bands. Hence, sell orders can be placed using the upper Bollinger band limit and place buy orders using the lower Bollinger band limits.
The upper and lower Bollinger bands function as price targets. For example, if the price of a security bounces off the lower Bollinger band and exceeds the 21-day moving average, the upper Bollinger band readjust and reflects the upper price target.
When there is a fluctuation in price between the upper Bollinger band and the 20-day moving average and an uptrend is identified, the Bollinger band portray a crossing below the 20-day average which signifies a trend reversal.
Importance Of Bollinger Bands In Forex Trading
- TREND IDENTIFICATION
The forex market is dynamic in nature with a lot of fluctuations and movements in conjunction with the fact that the price of a security can range 80 percent of the time. This is the reason why trading forex is seen as a bull and bear battle. Due to these reasons, market trends are difficult to trade.
This is where Bollinger bands come in. Bollinger bands are used as technical tools to measure and demonstrate the volatility of a price. With this, forex traders can easily identify trends in the forex market using both upper and lower Bollinger bands.
In addition, Bollinger bands are technical tools that adjust dynamically with the increasing and decreasing nature of volatility. This means that Bollinger bands automatically enlarge and contract in response to price action thereby creating a trend envelop.
In conclusion, Bollinger bands are suitable tools that function in a range-bound market. This technical tool functions effectively with currencies that follow a range pattern path. Both bands are used as tools for the identification of short-term prices in a financial asset. Bollinger bands give traders the ability to take advantage of oversold conditions and make huge returns. However, during the period of a breakout, great losses can be procured.