Bollinger bands are comprised of three bands which are referred to as the upper band, lower band and central band. The central band is a simple moving average which is normally set at 20 period and the upper and lower band represent the chart points at 2 standard deviations from the central band.
The following is an example of Bollinger bands indicator on the EURJPY currency pair.
Bollinger bands are used to measure markets volatility. When there is not much volatility Bollinger Bands are close together. When market has a lot of volatility Bollinger bands spread apart. Check the following picture. In the following picture you can see the areas where Bollinger bands are close together and there is very less volatility. You can also see the areas where the Bollinger bands are spread apart and you can see a lot of volatility. This can also be told in a reverse way. When the Bollinger bands are coming closer together means the volatility of the currency pair is decreasing. When the Bollinger bands are moving away from each other that mean the volatility is increasing.
How to trade using Bollinger Bands:
Bollinger Bands Squeezing: When the Bollinger bands squeeze that means when the bands come very close together that means a break out is about to occur. If the price starts to break the upper bands then that means the price will usually go up. If the Bollinger bands start to break the lower bands means the price will usually go down. Check the following picture. In the following picture after the bands squeezed together it broke the upper bands and moved upwards.
Check the following picture. It is a USDJPY hourly chart. You can see the Bollinger bands squeezing in the highlighted area. The price broke the lower Bollinger bands and it went down.
Using Bollinger bands in range markets: You can use Bollinger bands with any other indicators like stochastic, CCI etc. in a range market. You can identify range markets with Bollinger bands easily. In a range market the Bollinger bands are parallel or almost parallel to each other and horizontal. In such conditions if the stochastic indicator goes in to an oversold condition and the price touches or breaks the lower Bollinger bands you can buy the currency pair. If the stochastic indicator goes into an overbought condition and the price touches or breaks the upper Bollinger band you can sell the currency pair.
Check the following picture. In the following picture the Bollinger bands are parallel to each other and you can see the buy and sell opportunities when the stochastic indicator goes into the oversold and overbought regions.
Using Bollinger bands in trending markets: When the Bollinger bands are parallel to each other but moving in upward or downward direction, it is a trending market. When the trend is upward or downward you should not enter trading immediately. You have to enter the market at price reversals. When the market is trending generally the price reverses to the middle band and the middle band acts a strong resistance. Sometimes the price also reverses until the other band then starts to follow the trend again. You can look at other indicators like stochastic or use other techniques like candlestick patterns to enter the trading in the direction of trend at this point. When the price reaches the middle band or the opposite band and an engulfing candlestick pattern is formed in the direction of trend, you can enter the trading. Or if the price reaches the over bought or oversold regions you can enter trading in the direction of trend. Check the following picture the Bollinger bands are parallel to each other and moving upwards. That means the price is trending upwards. You can see that the price reverses until the middle band a lot of times and then followed the trend again.
Trend Line Breakouts: This technique can be generally used in daily chart. Using this technique you can get 50 to 100 pips profit. I will explain you this technique using the following picture. The following is a daily chart of EURGBP currency pair. You can see the trend line I have drawn for this. The trend line is broken with a strong bullish candlestick. Moreover it also broken the middle band and closed above the middle band. There is around 50 pips distance between the current candlestick and the upper band. You can take advantage of this and enter trading. You can close the trade when the price touches the upper band. Moreover stochastic indicator is not also in the overbought region.
Chart Patterns: You can use chart patterns with Bollinger bonds. Check the following picture. The following is the daily chart of EURUSD and you can see a reverse head and shoulder pattern for the currency pair. The neckline was broken by a strong bullish candlestick and it also broke the Bollinger bands. You can see the strong upward trend after that.
Bollinger bands and 123 pattern: You can use 123 pattern with Bollinger bands to find the beginning of a trend. You can also use candlestick patterns with this. Check the following picture. It is again the daily chart of EURGBP. You can see the 123 pattern I have identified. The price touched the upper Bollinger bands and returned to middle of the bands. Then a doji and then a strong bullish candlestick formed. This is the entry point. The stop loss can be placed below the bullish candlestick. You can see the trending market after the 123 pattern. It went up to almost 300 pips.
The following is another 123 pattern for the same currency pair. Now at the third point a bearish engulfing candlestick pattern is formed. As you can see I have entered a sell trade at this point. I am expecting a large move at this point. I will move my take profit levels and stop loss levels accordingly.