Forex Bollinger Bands

Bollinger Bands are three lines drawn around price. They show where price is "normal", where it is stretched, and when the market is quiet or busy.

What are Bollinger Bands?

John Bollinger created the bands in the 1980s. They are made of three lines:

Standard deviation measures how spread out recent closing prices are. When prices swing a lot, standard deviation grows and the bands move apart. When prices are calm, the bands move closer together.

Middle = SMA(20)
Upper = SMA(20) + 2 × σ(20)    Lower = SMA(20) − 2 × σ(20)

Example

On EUR/USD the 20 SMA is 1.0850 and the 20-period standard deviation is 0.0015 (15 pips).

Upper band = 1.0850 + 2 × 0.0015 = 1.0880
Lower band = 1.0850 − 2 × 0.0015 = 1.0820
Band width  = 1.0880 − 1.0820   = 60 pips
EUR/USD with Bollinger Bands (20, 2). Most candles stay inside the bands; touches of the outer bands are less common.

Note: Most closes stay inside the bands (often quoted as roughly 90% or more), but that is not a rule. Price can and does close outside the bands, especially in strong trends.

The Squeeze

A squeeze happens when the bands get very narrow. It means volatility is low. Low volatility rarely lasts forever — quiet periods are often followed by a strong move.

The squeeze tells you a big move may be coming. It does not tell you the direction.

A squeeze followed by expansion. The bands narrow during the quiet period, then widen sharply as price breaks out. After the breakout, price "walks" the upper band.

Example

GBP/USD trades in a 25-pip box for two days before a central bank decision. The Bollinger Bands are the narrowest they have been in three months.

A squeeze trader waits. Price closes above the upper band and the box high at 1.2725. The trader buys with a stop below the box at 1.2695 (30 pips of risk).

Warning: The first break out of a squeeze is sometimes a head fake — price pokes out one side, then reverses hard the other way. Wait for a candle to close outside the range, and always use a stop.

Expansion

Expansion is the opposite of a squeeze: the bands widen quickly. It shows that volatility has jumped and a strong move is underway.

Walking the Bands

In a strong trend, price can stay pressed against one band for many candles. This is called walking the bands.

GBP/USD in an uptrend. Price spends most of its time in the upper half of the bands, between the middle band and the upper band.

Common mistake: Selling just because price touched the upper band. In a trend, a touch of the upper band is a sign of strength, not a reason to sell.

Mean Reversion in Ranges

Mean reversion means price tends to return to its average. In a sideways market, the bands can work as dynamic support and resistance:

  1. Confirm the market is ranging: flat middle band, no clear higher highs or lower lows.
  2. Look for price to reach the lower band (buy idea) or the upper band (sell idea).
  3. Wait for a rejection candle, such as a pin bar.
  4. Target the middle band. Place the stop beyond the band and the recent swing.

Example

AUD/USD is ranging. The middle band is flat at 0.6600, the lower band is at 0.6570.

A bullish pin bar closes at 0.6575. Buy at 0.6575, stop at 0.6555 (20 pips), target the middle band at 0.6600 (25 pips).

Reward-to-risk = 25 ÷ 20 = 1.25 : 1.

Tip: Mean reversion works in ranges; band walking happens in trends. The hardest (and most important) skill is telling which market you are in. A flat middle band suggests a range; a sloping one suggests a trend.

%B and Bandwidth

Two simple tools turn the bands into numbers.

%B — where is price inside the bands?

%B = (Price − Lower) ÷ (Upper − Lower)

Bandwidth — how wide are the bands?

Bandwidth = (Upper − Lower) ÷ Middle

A bandwidth near its lowest level in months is an objective way to spot a squeeze.

Example

Upper = 1.0880, lower = 1.0820, middle = 1.0850, price = 1.0874.

%B        = (1.0874 − 1.0820) ÷ (1.0880 − 1.0820)
          = 0.0054 ÷ 0.0060 = 0.90
Bandwidth = 0.0060 ÷ 1.0850 = 0.0055  (0.55%)

Price is 90% of the way up the bands, close to the upper band.

Strengths and Weaknesses

Strengths

  • Adapts to volatility automatically.
  • Shows trend, range and volatility on one chart.
  • The squeeze is a clear, visual setup.

Weaknesses

  • Band touches are not buy or sell signals on their own.
  • Squeezes do not give a direction.
  • Lags price, like every moving average.

Pair the bands with a momentum tool such as RSI or MACD, and with price levels from Support & Resistance.

Test Yourself With Exercises

What are the standard Bollinger Band settings?

  1. 14-period EMA ± 1 standard deviation
  2. 50-period SMA ± 3 standard deviations
  3. 20-period SMA ± 2 standard deviations
The default is a 20 SMA with bands 2 standard deviations above and below.

The 20 SMA is 0.6600 and the standard deviation is 0.0012. Where is the upper band?

  1. 0.6624
  2. 0.6612
  3. 0.6636
  4. 0.6576
0.6600 + 2 × 0.0012 = 0.6624.

What does a Bollinger Band squeeze tell you?

  1. Price will break upward
  2. Volatility is low and a larger move may follow
  3. The market is overbought
A squeeze shows low volatility. It hints at a coming move but not its direction.

Upper band 1.2760, lower band 1.2700, price 1.2715. What is %B?

  1. 0.75
  2. 0.50
  3. 1.25
  4. 0.25
(1.2715 − 1.2700) ÷ (1.2760 − 1.2700) = 0.0015 ÷ 0.0060 = 0.25.

In a strong uptrend, price keeps closing at the upper band. What is the best reading?

  1. Sell now — price is too high
  2. The bands are broken
  3. Price is walking the band — a sign of strength
In a trend, price walks the band. Fading every touch is a common, costly mistake.