Crypto Academy Week 16 - Homework Post for @kouba01

What are Bollinger Bands?

It is an indicator created by "John Bollinger", which is classified within the range of technical trend indicators, in addition, it has become one of the most used indicators in the trading industry and / or investment in the stock markets. In this sense, this technical indicator is based on the recognition of stock market patterns and trends that measure the volatility of a financial asset. Graphically, this indicator is composed of a simple 20-period moving average (default) and two additional lines (curves) that wrap around the asset's prices, which generally serve to detect dynamic supports and/or resistances, which oscillate in confluence with the price. Moreover, with such bands, we can easily detect an ongoing trend and its possible reversal.

These elements make "Bollinger Bands" a versatile, flexible, easy to use and/or interpret indicator, which allows, in a way, to determine trades by putting the odds in our favor. It is true that, by itself, it is not perfect and we will probably have to rely on other studies and indicators to increase our winning percentage, but it is a good start for those traders who are looking for an easy to understand indicator that suits their needs.

As I already mentioned, this indicator is formed by 3 different elements which are:

• Upper Band (Upper Line): This band is calculated by adding to the 20-period simple moving average (SMA), 2 standard deviations, so it is placed at the top.

• Middle Band (Middle Line): This middle band is simply constituted by a 20-period simple moving average (SMA). So it is located in the middle of the bands.

• Lower Band (Lower Line): This band is calculated by subtracting 2 standard deviations from the 20-period simple moving average (SMA), so it is placed at the bottom.

Generally, the most used moving average to use the "Bollinger Bands" is 20 periods, which are the standard measure of the industry, however, it is not mandatory to use the default configuration, since, we can try other periods in which to use it. However, some configurations that are usually used are 10 and 50 days, but depending on the trader's taste and the type of trader he is, he can try different ways to definitely adapt them to his trading style. Usually those who work with shorter time frames, will like to work with the 10 and / or 9 periods, to get signals faster, contrary to those who work with larger time frames, which usually seek operations in the medium and long term, we work perfectly with the 50 and / or 55 days.

^{Screenshot of Tradingview}

How to calculate Bollinger Bands?

To calculate the Bollinger Bands, first of all, we must calculate its main element, this is the simple moving average of 20 periods, since, from it we get the 2 standard deviations that we need to calculate our upper and lower bands. So, taking this into account, I will proceed to detail these calculations, which we will have very much in mind when using our Bollinger indicator, but emphasizing that, to use it in our charts, in platforms such as "Tradingview" or "Binance", these calculations are performed automatically. Now without anything else to say, I will start with the calculations:

Calculation of the 3-day simple moving average:

To calculate our 3-period moving average, we must follow the following formula:

• Simple moving average (3) = Sum of the prices during the periods we are going to use / The number of period we are going to use.

I have chosen 3 periods so as not to make the formula longer ok, so we have, that, for example, I want to calculate a 3 period average and I am looking at a chart, on the LINK-USDT pair. So, to simplify this exercise let's imagine the following LINK prices at the close of each day (20, 23, 26) and the days I want to calculate are 3, based on this the operation is as follows:

• SMA 3 = (20+23+26) / 3 =
  SMA 3 = 69 / 3=
  SMA 3 = 23

Based on the previous result we have that, our average price based on a 3-day moving average is equal to $23. So, if we want to calculate a "20 days Simple Moving Average", we only have to take into account the last closing prices of the asset we are analyzing of the last 20 days, and then divide them by the number of periods we are using, which is 20, and the result will give us the average price of that particular asset, with the data and periods we have chosen.

Calculations of the Upper and Lower Bands

The Upper and Lower Bands, have a much more complex calculation than the moving average, however, I can deduce and understand that, for the calculation, for example, of the "Upper Band" of the bollinger bands, we must add to the moving average of 20 periods, twice (2x) the standard deviation of that moving average and totally the opposite to calculate the "Lower Band", since, for this we must subtract to the moving average of 20 periods, twice (2x) the standard deviation of that simple moving average. In conclusion, the higher the deviations, the less false signals we can obtain from this indicator, now, if we use lower deviations than this, we can obtain an excessive amount of signals where surely most of them would be false.

To summarize:

• For the Upper Band: The 20-period simple moving average is increased by (2x) twice the standard deviation of the mean.

• For the Lower Band: Subtract (2x) twice the standard deviation of the mean from the 20-period simple moving average.

How do Bollinger Bands work?

In order to know how Bollinger Bands work, we have several configurations that we can use to look for trades with the highest probability of being successful. These configurations determine some of the many ways to use the indicator and look for investment signals, remembering that we must be very careful when trading, since investing in the markets represents a risk and if we have a proper risk management, we can mitigate that risk. These ways to use them are:

Overbought and Oversold: Perhaps this is the most common way to use this indicator, however, using these signals correctly can bring us some benefits to our trading accounts. The way to look for overbought and oversold with Bollinger Bands, is simply to observe how the price behaves when it moves from its upper end to the lower end and vice versa, in a few words, we will look for "Buy" signals, when the price goes out of the "Lower Band" and we will look for "Sell", when the price goes out of the "Upper Band". This is a simple setup to use it in this way, however, if our intention is to use it on its own, we must take into account the following:

• We must take into consideration which is the direction of the trend and look for trades only in the direction of this, since, if for example we take an overbought trade in an uptrend, we will be looking for downward trades with the lowest probability in our favor, so, in this sense we must look only for trades that show us an oversold, which we will understand as a bearish correction looking to follow its trend.

• In order to strengthen our entry signal of "Overbought or Oversold", we can use an additional indicator to our operation which is the "RSI", with our two indicators on the scene, we can seek confluence between the two and thus increase the chances of our success in a transaction, without forgetting that we must operate in favor of the trend to minimize our risk.

^{Screenshot of Tradingview}

Measuring Volatility in the markets: Another of the uses we can give to the "Bollinger Bands" is to measure volatility in the market. In this sense, we can determine that, when there is no volatility in a market, the Bollinger Bands "Narrow", which causes the price to box and form a price range or also called lateralization. However, when there is volatility in the market, the bands tend to "Widen", indicating that trading volume has increased, forming more aggressive price impulses.

In this context, the way to be able to start looking for trades using volatility, is based firstly on interpretation, if for example we start our trading day and we use our bollinger bands, and we see that the price is narrowing in a price range, our interpretation should be that, for no reason we should look for trades immediately in the market, however, we can be aware that soon volatility will increase and cause a strong movement, either down or up and in this way if we start planning our next trade, since, our bands were widened for this moment and we will try to join this new trend.

In Summary:

• The "Wider" our bands are, the more volatile the market will be.
• The "Narrower" our bands are, the less volatile the market will be.

^{Screenshot of Tradingview}

Trades with Squeeze and Breakout: This configuration comes into confluence with the measurement of market volatility mentioned above. When I said that in order to look for trades we should first measure the volatility, of course, I must say that there is a second way to use this to our advantage to look for trades. Based on this, the bollinger bands present two patterns of behavior that we have already mentioned and they are the "Squeeze" and the "Breakout".

• Now, what is the "Squeeze". It is simply when the Bollinger Bands begin to contract, this is interpreted as a sign that a big price move is most likely about to happen, which also means that volatility is about to increase, but we must wait patiently for the next pattern of the bands to happen.

• Now I will talk about the other side of the coin which is the "Breakout". In this specific context, it is when our bands start to expand, this is commonly interpreted as a breakout signal, which is our clearest buy and/or sell signal.

^{Screenshot of Tradingview}

What is the best configuration to use Bollinger Bands?

The best configuration that can be placed in the "Bollinger Bands" according to its creator John Bollinger, is undoubtedly the default one. Now, the reasons behind this personal deduction, is firstly the 20 day moving average, which represents the standard average used throughout the industry, in addition to this, this configuration brings with it, the bands both upper and lower, have 2x standard deviations, calculated in this way, because statistically it provided approximately 68% of effective and winning signals according to its use. Then, if we wanted to use a lower moving average than this one, for example, of 10 days, it would represent a deviation of 1.5x, which would provide a great amount of signals that, in their majority, can be false.

Taking into account the above, the best configuration is as follows best configuration is the following:

• 20-period moving average
• Price calculation is at "Close".
• Default deviation is "2".
• Offset is "0", which means that candlesticks ahead of the chart are not very useful.

^{Screenshot of Tradingview}

What is a rupture and how is it determined?

Rupture with patterns of behavior

To determine a breakout, we must first take into account how the "Bollinger Bands" behave, in that sense, it is in this question, is where it makes more sense what was mentioned in the previous section, about how the bollinger bands worked. So based on this, we have that, to define a breakout, we need two patterns, the first one is the "Squeeze", which represents graphically when the price is sideways in a very small price range.

This tells us that the volatility in the market is really low, but we must be alert because this will change and it is right here when we integrate the second pattern, which is the "Expansion or Breakout", where we will wait for the price to leave the upper and lower bands, and that specific candle that makes the breakout, It must carry strength and conviction accompanied by a good volume, closing above, in the case of breaking the upper band, and below in the case of our lower band, which tells us that the volatility in the market is about to change and we will see the formation of a new trend in the asset.

^{Screenshot of Tradingview}

Trend reversal breakouts

In this type of breakouts, the above mentioned in the previous section regarding overbought or oversold also comes into play. These work as follows, we are facing a clear trend in the asset, but of course, every trend is accompanied by corrections in the price in the opposite direction to our trend, which means that when we are in an uptrend and the price sometimes breaks the upper band, we are facing a possible "overbought" which is usually followed by a correction in the price.

In the following image, we can see such a breakout in the upper band:

^{Screenshot of Tradingview}

Now, when we are facing this price retracement in an uptrend, what we expect is that, with our bollinger bands, we can expect an "oversold" signal in the same, so we wait for the price to make a breakout of these downward, meaning that most likely our price correction is over and the trend is already ready to continue and make a next impulse.

In the following image we can see this breakout in the lower band:

^{Screenshot of Tradingview}

How to use Bollinger Bands with a trending market?

Using the "Bollinger Bands" for markets that are in trend is very simple, of course, the first thing is to identify that we are in a trend, either bullish or bearish, this will help us to determine in which direction we should look for our operations, remember, as I said before, we should only take operations in favor of this, because in this way we mitigate and reduce the risk of getting a loss. Then, to be able to look for buy and sell signals with our bands, we must take into account the following:

• For an uptrend: In this case, we will use our Bollinger bands to look for a concrete signal. Before this, we must observe the behavior of the price within the bands and; if we are in an uptrend, the price usually remains above the middle line of the bands, which is our 20-period moving average and this also remains very close constantly to our upper band, therefore, the signal we are looking for, will happen when the price is going to make a break, I mean, this is looking for a pullback that commonly makes it up to the average line of 20 periods. After this and the price successfully rejects our average line, it is a clear signal to buy and join the uptrend.

^{Screenshot of Tradingview}

• For a downtrend: Now we will see the opposite side of the coin to trade a downtrend with our Bollinger Bands. First, as usual we must determine the current market trend, then we observe that the price is below our 20-period moving average line and that it is very close to the lower band, and then we enter the next step, which will be to look for a price retracement in the opposite direction of the current trend, that is to say, to the rise and we will look for the rejection to the fall of the price in the moving average of 20 periods, which will give me the signal, to be able to enter to the fall, which is the path of less resistance that has the price at that particular time and take an operation with the best probabilities of success.

^{Screenshot of Tradingview}

What is the best indicator to use with Bollinger Bands to make your trade more meaningful?

This is a very interesting question, since, there are excellent combinations and strategies of other indicators with the Bollinger Bands, based on this, we only need to synchronize these to be able to look for operations with many more possibilities of being successful, which will minimize our risk to a great extent. Something I want to emphasize at this point, is that no indicator is 100% reliable and much less working alone, on the other hand, I must say that most indicators base their calculations on events that have already occurred in the past, so we will never have 100% real time information when using any of them.

However, what we can determine with these, is which side are the most likely to succeed and, as trading is about placing these in our favor, we can determine what could happen in a particular technical analysis that we perform. Personally, I do not usually use many combined indicators, for me the price action and studies such as the Wyckoff method and Elliot waves, plus the search for liquidity zones, are enough for me.

However, I have used strategies that combine one or more indicators and below, I show you which is the best combination for me, using Bollinger Bands:

Bollinger Bands + RSI:

In my opinion is one of the most powerful combinations of technical analysis, in the past I have done "Backtesting" of these combined and the level of positive trades goes up by a great amount than, using them both separately. The way I personally look to combine them, is to look for overbought or oversold levels in the RSI, plus the moment the price makes a breakout of either the upper or lower band and the candle at that moment closes below the lower band if bearish and/or above the upper band if bullish. This is the most powerful signal, since both enter into confluence allowing us to have more chances to succeed in the operation, provided that, before this we have determined the prevailing trend and seek a reversal in favor of this.

^{Screenshot of Tradingview}

Bollinger Bands and MACD:

In second place, I place the combination of Bollinger bands and MACD. It has this place because I haven't really done much testing on this combination, at least not for a long time, but judging from the little I have tested, the signals are very good. The way both indicators come into confluence is when the price makes a breakout of the bands, either up or down, then at the same time on the MACD, we should be looking for how the histogram is moving, in short, if it is changing from positive to negative.

A clearer example of this combination is that, if we are in an uptrend, and we observe that there is a pullback in the price, of course to the downside, we have to look for the price or one of the candles to break the lower band and then see if there is a rejection in the direction of the dominant trend which is up. Once we observe this, the MACD histogram should be showing signs of weakness in its bars, making the red ones become smaller, until it goes to the positive side and a green one is formed, this means that most likely the general trend resumes and the price after having broken the lower band, should be on its way back to the average band of 20 periods pointing upwards.

^{Screenshot of Tradingview}

In which time period do Bollinger Bands work best and why?

Basically, there is no time frame in which the "Bollinger Bands" work best, this will depend exclusively on the type of trader or investor that he/she is. For some, it is better to work in short time frames, operating the trading style called "Scalping", simply because they have little patience and they like to get profits faster, even if it is sometimes insignificant, having as a motto that the more operations they make, the more profits they can get.

On the other hand, there are the traders who are full of patience as in my case, and work higher time frames, looking for operations that last in the market a longer period of time than the rest, in order to obtain the highest profits, something characteristic of only the "Swing Traders or also called "position traders" that, basically look for quality instead of quantity, because with a single operation they can earn much more than what a "Scalper" earns entering 20 daily operations.

Finally, to demonstrate a greater effectiveness in operations I will compare at least 2 time frames, where, I will observe 1 chart with low time frame and another with a higher temporality, in order to observe, in which of these there is less noise in the graph and can be better entries using the Bollinger Bands:

^{Screenshot of Tradingview}

^{Screenshot of Tradingview}

The various signals we can see with Bollinger Bands

^{Screenshot of Tradingview}

In the last image we can see several investment signals using the "Bollinger Bands". To summarize a little of what you can see, we have the following:

• A clear Bollinger Squeeze, with low volatility in the asset in this case ETH-USDT.

• We see the formation of an uptrend and how the price is supported by the middle line which is the 20 period Simple Moving Average.

• We see a clear bullish breakout which is accompanied by an increase in volatility in the asset and the expansion of the bands.

• We see a trend reversal, an overbought zone in the Bollinger Bands that enters in confluence with the same overbought zone, but this time in the RSI.

To conclude the Bollinger Bands, they are a great technical trend indicator that helps to identify various investment signals that are very easy to interpret and manage for any investor who is starting in the financial markets, also you can trade with this in any type of assets, including, of course, Cryptocurrencies. On the other hand, I really enjoyed doing the assignment of the professor @kouba01, really every week you learn in detail about different ways to see the Cryptocurrency markets, besides understanding in a simpler way how the platforms and the Blockchain technology itself work.

I take this opportunity to thank not only the teacher @kouba01, but the entire Steemit team, which has done a hard work in this community, educating each member that conforms it in a masterful way. It was a great 2nd season and of course I look forward to many more to come.

Happy learning and investing for everyone.

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^{Gif image sponsored by jacorv}