Tops and Bottoms on Bollinger Bands Strategy

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Trading Double Tops And Double Bottoms

No chart pattern is more common in trading than the double bottom or double top. In fact, this pattern appears so often that it alone may serve as proof positive that price action is not as wildly random as many academics claim. Price charts simply express trader sentiment and double tops and double bottoms represent a retesting of temporary extremes. If prices were truly random, why do they pause so frequently at just those points? To traders, the answer is that many participants are making their stand at those clearly demarcated levels.

If these levels undergo and repel attacks, they instill even more confidence in the traders who’ve defended the barrier and, as such, are likely to generate strong profitable countermoves. Here we look at the difficult task of spotting the important double bottom and double tops, and we demonstrate how Bollinger Bands® can help you set appropriate stops when you’re trading these patterns.

Chart Created by Intellichart from FXtrek.com

Chart Created by Intellichart from FXtrek.com

React or Anticipate?
One great criticism of technical pattern trading is that setups always look obvious in hindsight but that executing in real time is actually very difficult. Double tops and double bottoms are no exception. Although these patterns appear almost daily, successfully identifying and trading the patterns is no easy task.

There are two approaches to this problem and both have their merits and drawbacks. In short, traders can either anticipate these formations or wait for confirmation and react to them. Which approach you chose is more a function of your personality than relative merit. Those who have a fader mentality – who love to fight the tape, sell into strength and buy weakness – will try to anticipate the pattern by stepping in front of the price move.

Chart Created by Intellichart from FXtrek.com

Chart Created by Intellichart from FXtrek.com

Chart Created by Intellichart from FXtrek.com

Reactive traders, who want to see confirmation of the pattern before entering, have the advantage of knowing that the pattern exists but there’s a tradeoff: they must pay worse prices and suffer greater losses should the pattern fail.

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Chart Created by Intellichart from FXtrek.com

Chart Created by Intellichart from FXtrek.com

What’s Obvious Is Not Often Right
Most traders are inclined to place a stop right at the bottom of a double bottom or top of the double top. The conventional wisdom says that once the pattern is broken, the trader should get out. But conventional wisdom is often wrong.

Leaving the trade early may seem prudent and logical, but markets are rarely that straightforward. Many retail traders play double tops/bottoms, and, knowing this, dealers and institutional traders love to exploit the retail traders’ behavior of exiting early, forcing the weak hands out of the trade before price changes direction. The net effect is a series of frustrating stops out of positions that often would have turned out to be successful trades.

Chart Created by Intellichart from FXtrek.com

What Are Stops For?
Most traders make the mistake of using stops for risk control. But risk control in trading should be achieved through proper position size, not stops. The general rule of thumb is never to risk more than 2% of capital per trade. For smaller traders, that can sometimes mean ridiculously small trades.

Fortunately in FX where many dealers allow flexible lot sizes, down to one unit per lot – the 2% rule of thumb is easily possible. Nevertheless, many traders insist on using tight stops on highly leveraged positions. In fact, it is quite common for a trader to generate 10 consecutive losing trades under such tight stop methods. So, we could say that in FX, instead of controlling risk, ineffective stops might even increase it. Their function, then, is to determine the highest probability for a point of failure. An effective stop poses little doubt to the trader over whether he or she is wrong.

Implementing the True Function of Stops
A technique using Bollinger Bands can help traders set those proper stops. Because Bollinger Bands® incorporate volatility by using standard deviations in their calculations, they can accurately project price levels at which traders should abandon their trades.

The method for using Bollinger-Bands stops for double tops and double bottoms is quite simple:

  1. Isolate the point of the first top or bottom, and overlay Bollinger Bands with four standard-deviation parameters.
  2. Draw a line from the first top or bottom to the Bollinger Band. The point of intersection becomes your stop.

At first glance four standard deviations may seem like an extreme choice. After all, two standard deviations cover 95% of possible scenarios in a normal distribution of a dataset. However, all those who have traded financial markets know that price action is anything but normal – if it were, the type of crashes that happen in financial markets every five or 10 years would occur only once every 6,000 years. Classic statistical assumptions are not very useful for traders. Therefore setting a wider standard-deviation parameter is a must.

The four standard deviations cover more than 99% of all probabilities and therefore seem to offer a reasonable cut-off point. More importantly they work well in actual testing, providing stops that are not too tight, yet not so wide as to become prohibitively costly. Note how well they work on the following GBP/USD example.

Chart Created by Intellichart from FXtrek.com

More importantly, take a look at the next example. A true sign of a proper stop is a capacity to protect the trader from runaway losses. In the following chart, the trade is clearly wrong but is stopped out well before the one-way move causes major damage to the trader’s account.

Chart Created by Intellichart from FXtrek.com

The Bottom Line
The genius of Bollinger Bands is their adaptability. By constantly incorporating volatility, they adjust quickly to the rhythm of the market. Using them to set proper stops when trading double bottoms and double tops – the most frequent price patterns in FX – makes those common trades much more effective.

Forex trading strategy #16 (Picking tops and bottoms on Bollinger Bands)

Submitted by Lino

Picking tops and bottoms on Bollinger Bands

By using multiple time frames and candle stick formation we will uncover how to pick tops and bottoms while trading in the trend of the bigger time frame.

We begin by looking at the daily chart to ascertain what direction we looking to trade by using the common Bollinger Band indicators middle line. A pair trading above the 20SMA is in short term up trend. A pair trading below the 20SMA is in a short term down trend.

Once we find our direction we move to the smaller time, 4hour and 1hour, there we look for weakness in a uptrend (touch of bottom bands) and strength in a down trend (top of bands).

Picking Tops and Bottoms on Bollinger Bands© For Binary Options Trading

Full Review of the Picking Tops and Bottoms on Bollinger Bands© Strategy for Binary Options

We are constantly looking for the best trading strategy, the best way of getting a sense of direction and the best entry point. When a trader finally settles on a trading system and is happy with the results, the trading journey is almost over and everything becomes routine: wait for a good setup – trade according to it and according to the money management rules – make money – repeat – buy Malibu house, cars, a boat, another car and last but not least, donate to charity. Cool, but most of us are not there yet and we are still looking for a way to improve so today I’m going to explain another strategy, originally found here: http://forex-strategies-revealed.com/basic/tops-and-bottoms-on-bollinger-bands.

How to pick Tops and Bottoms on Bollinger Bands©

This strategy uses Bollinger Bands, just like the name implies, but I think its true strength comes from the use of multiple time frames. First we need to apply Bollinger Bands to a daily chart and then do the same thing on a H4 or hourly chart. Here are two charts with Bollinger Bands on both of them:

I know what you’re thinking: “Wow, this dude really can’t draw”. And you are right; I really can’t, but my drawing skills are really not that important. Instead, what matters is the fact that my crappy drawing shows a period when price was below the middle line of the Bollinger tool. The strategy uses the default 20 setting for the Bollinger and according to it, when price is under the middle line, the market is in a downtrend and when price is above it, we are trading in an uptrend. This is the way the strategy identifies the trend with the use of the Bollinger Bands and it is pretty reliable. It is not fail proof, but then again, nothing is.

Ok, now that we identified trend on a higher time frame, we will move down to a smaller time frame (H4 or Hourly according to the strategy) and we must find “weakness in an uptrend” and “strength in a down trend”. On the comments section of the site where the strategy is posted there are some guys who don’t really understand what that means so I will try to explain it: a down trend is characterized by weakness of the underlying asset, but price doesn’t travel in a straight line and even if the overall direction is down, price will have moments of strength before dropping lower. The opposite thing happens in an uptrend: there is overall strength but also moments of weakness, when price moves lower. This is the well known “retracement”.

So for our next step, we must identify strength in the down trend (remember that on the Daily chart from our picture we identified a down trend). This strength is represented by a touch of the upper Bollinger band (point “1” on the chart) so when we see price reaching the top band, we place a Put. That’s about it; now we wait calmly for the expiry time and think about the Malibu house…but in the mean time, let’s recap the entry rules:

Call Entry:

Price on the Daily chart must be above the middle Bollinger line

Price on the H4 chart must touch the lower Bollinger Band

Put Entry:

Price on the Daily chart must be below the middle Bollinger line

Price on the H4 chart must touch the upper Bollinger Band

Why does the Strategy Suck?

If you can see the bigger picture, and understand the principle, this strategy doesn’t Suck at all. But for the people who have problems understanding “weakness in an uptrend” and “strength in a down trend” (in other words, the principle of identifying a trend and then trading the retracement), this strategy will suck big time.

Why the Strategy Doesn’t Suck?

Any trade taken in the direction of the overall trend has a higher probability of being successful. The strategy makes you trade only in the direction of the main trend and if the trader manages to keep disciplined and follow the simple rules, this one can be a money maker.

Wrapping it up:

Multiple time frame analysis has always been one of my favorite ways of trading and I’m sticking to it, so my personal opinion is that you can pick tops and bottoms with this strategy, but it needs testing and definitely adapting to each trader’s personality and style. Extra filters could be a great addition, but be careful not to overcomplicate things.

Find out more about Picking Tops and Bottoms on Bollinger Bands© For Binary Options Trading

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