Our term of the day is “Bollinger Bands” Bollinger Bands are volatility bands placed

above and below a moving average. Volatility is based on the standard deviation, which

changes as volatility increases and decreases. The bands automatically widen when volatility

increases and narrow when volatility decreases. This dynamic nature of Bollinger Bands also

means they can be used on different securities with the standard settings. For signals, Bollinger

Bands can be used to identify M-Tops and W-Bottoms or to determine the strength of the trend.

Standard deviations are a statistical unit of measure describing the dispersal pattern

of a data set. By definition, one standard deviation includes

about 68% of all data points from the average in what is referred to as a normal distribution

pattern, while two standard deviations include about 95% of all data points.

When working with Bollinger Bands, it is not necessary for you to calculate standard deviations

yourself. You need only understand the theory of how standard deviation sets the range for

a dispersal of rates when compared to the moving average, and how this information is

used to determine buy and sell channels in the chart.

The area between the moving average line and each band produces a range, or channel.

The area above the moving average is referred to as the buy channel as prices displayed

in this region remain higher than the moving average and suggest upward momentum. Conversely,

prices falling below the moving average are in the sell channel as the spot rate is declining

more rapidly than the moving average which suggests that the exchange rate has downward

momentum.