If you’ve been CFD trading for some time now, you may want to consider what type of trading strategy to use to maximize your gains. One trading strategy we recommend is the Bollinger Bands Strategy.
In this article, we’ll take you through the Bollinger Bands Strategy in detail and help you understand how it can be used in CFD trading.
What are Bollinger Bands?
Bollinger Bands are a type of trading technical analysis tool. They were developed in the 1980s by American financial analyst John Bollinger to track the changes in prices in stocks during trading.
What is the purpose of using Bollinger Bands in CFD trading?
At its core, Bollinger Bands can help a trader track the volatility in prices within the financial market. When you are CFD trading, you can use Bollinger Bands to measure how much increase or decrease there may be in a specific instrument’s price compared to how it previously traded.
One of the best features of the Bollinger Bands strategy is that it is a fluid technical tool that can be used to measure price changes in a variety of market conditions. Plus, they aren’t just useful in CFD trading. In fact, the Bollinger Bands strategy can be used for any type of financial instrument.
Calculating Bollinger Bands
Bollinger Bands are calculated on the principle of standard deviation. A simple moving average constitutes the average price of a particular instrument. On either side of the average are the “bands”. On the upper limit/band is the positive standard deviation, while the lower limit/band is the negative standard deviation.
By using the Bollinger Bands technical indicator, investors are able to:
· Track sudden changes in instrument prices.
· Identify assets that have been overbought or oversold.
· Find an optimal point of entry and point of exit for the instrument of choice.
When calculating Bollinger Bands, you need to follow a three-step process, which includes:
· Calculating the central/middle simple moving average of the closing price of the instrument.
· Calculating the upper band by adding the standard deviation to the middle moving average you have calculated.
· Calculating the lower band by subtracting the standard deviation from the middle moving average you have calculated.
In terms of formulate:
Middle/central simple moving average – MA(TP,n)
Upper band – MA(TP,n)+m∗σ(TP,n)
Lower limit – MA(TP,n)−m∗σ(TP,n)
TP (typical price) = (High price + Low price + Close price) ÷ 3
N = No. of days in smoothing period (usually 20 days)
M = No. of standard deviations (typically 2 days)
σ[TP,n] = Standard Deviation over last “n” periods of typical price ]
Advantages of the Bollinger Bands strategy in CFD trading
Bollinger Bands offer numerous benefits to traders. Some of these include:
· They allow you to monitor the volatility in prices.
· They can show the direction in which the CFD prices are heading and what the future prices may be. (However these indications are never guaranteed).
· They can help traders see which trading trends are ending and which trends are beginning. The bands also showcase signs which indicate possible investing fads that won’t last.
· They are extremely easy to use and are ideal for all levels of traders.
Disadvantages of the Bollinger Bands strategy in CFD trading
· These bands might be powerful, but they’re not set in stone and are vulnerable to uncertainties that other technical indicators are too.
· They don’t indicate changes weeks in advance and traders may not get much insight about the far future of the instrument in question.
· This technique – according to the creator John Bollinger – is not of real value as stand-alone measures. Instead, they must be used along with other technical indicators in order to provide real insights to traders.
Other indicators to use alongside Bollinger Bands
· %b Indicator
· BBTrend Indicator
· RSI Indicator
5 top Bollinger Bands strategies to use
Now that we know how Bollinger Bands are used for CFD trading, let’s take a look at a few of the strategies you can use when using Bollinger Bands:
· Bands squeezing
In this strategy, the Bollinger Bands stop moving upwards or downwards. Instead, they move towards each other in consolidation. This indicates that the price of the instrument is no longer as volatile as assumed before and it could be a good time to either buy or sell. After the consolidation, the price of the instrument can move in either direction.
· Bollinger candlestick/pinbar trading strategy
This strategy indicates that a reversal in the current prices is imminent. So, traders can plan against the current pricing. If it’s a bullish candlestick/pinbar, traders may reject the lower prices. On the flip side, if it’s a bearish candlestick/pinbar, traders may reject the higher prices.
· Double Bands Strategy
In the double bands strategy, traders don’t just rely on one Bollinger Band for information about instrument prices. Instead, they use two Bollinger Bands to track price volatility. Here, the first Bollinger Band uses two standard deviations, while the second band uses just one.
· Snap Back to the Middle of the Bands Strategy
This technique is one of the safest strategies when using Bollinger Bands. Instead of waiting for the price to swing either upwards or downwards, traders wait for the Bollinger Bands to indicate the price is closest to the Middle/Central band. This is the period of the highest stability in prices and can offer consistent returns when invested or pulled out.
· Trade Inside the Bands Strategy
This Bollinger Bands trading strategy can be used when you want to trade within a specific range. Traders can use the upper and lower bands to determine a specific range for trading and only buy or sell within that range.
All of the above strategies can help traders identify the point of resistance and support. When it comes to Bollinger Bands, resistance is seen when the trend upward is condensed and a downward reversal is in the offing. Traders may notice support when a downward price trend slows down and the demand concentrates on a point higher than the lower limit.