Bollinger Bands® and Moving Average are powerful technical analysis tools that help traders predict price trends and trade entry and exit points. In this guide, you will learn how to optimise your prop trading strategies by using a combination of Bollinger Bands and Moving Average to make more accurate decisions.
Moving Average (MA) and Bollinger Bands® (BB) are two important and frequently used tools for technical analysis in prop trading.
If you are new to Bollinger Bands, do spend some time to check out some of our previous articles on this trend and volatility detecting tool: Bollinger Bands - Introduction and key points. Bollinger Bands - Trading strategies for long and short positions and Bollinger Bands to determine when to enter a trade and when to exit a trade.
On the other hand, If you need a refresher on Moving Average, you may read our articles An introduction to simple moving average and How to use moving average for accurate trend analysis.
While many are familiar with using moving average (MA) crossovers to analyse buy and sell points, some methods combine MAs and BBs. In this article, we will discuss how to combine these two powerful tools for technical analysis.
1. Combining short-term MA and long-term BBs
The crossover of short-term and long-term MAs is a method of technical analysis used to determine buy and sell signals.
When the short-term line crosses above the long-term line in a Golden Cross, it indicates a shift to an uptrend in the market, signalling a buy opportunity. Conversely, when the short-term line crosses below the long-term line in a Death Cross, it suggests a shift to a downtrend in the market, signalling a sell opportunity.
In this MAs crossover, the long-term MA can be replaced with BBs, to reduce the occurrence of false signals compared to using only MAs. This introduces the combination of a 5-day MA with a 20-day BB, with a standard deviation ±1. The key aspect is the ±1 standard deviation.
Figure 1. Short-term MA and long-term BBs.
2. Trading rules using MAs and BBs
The premise for entering a position is to determine the direction of the trend and follow the trend, looking for a favourable trade. If the trend conditions are right, you should enter the market when a Golden Cross or Death Cross occurs between the short-term MA and the long-term BBs.
Trading rules when using MAs and BBs
Buy: When the centre line of the Bollinger Bands (MA) is trending upwards and the MA crosses above the +1σ of the Bollinger Bands.
Sell: When the centre line of the Bollinger Bands (MA) is trending downwards and the MA crosses below the -1σ of the Bollinger Bands.
Figure 2. Entry and exit positions by take-profit.
Figure 2 illustrates a trading example in an uptrend. Entry takes place at position A after meeting the buy criteria. The exit point using a take-profit order can be chosen when the 5-day MA returns to position B within the ±1σ channel of the Bollinger Bands.
Additionally, after taking profit, if the direction of the centre line of the Bollinger Bands remains unchanged, re-entry can be considered when the MA crosses the ±1σ once again. In Figure 3, a new buy trade is initiated from E to F after conducting a buy trade from C to D.
Figure 3. Continuous trading opportunities.
Summary
In summary, when using moving average together with Bollinger Bands:
- You buy when the centre line of the Bollinger Bands is trending upwards and the MA crosses above the +1σ of the Bollinger Bands. You sell when the centre line of the Bollinger Bands is trending downwards and the MA crosses below the -1σ of the Bollinger Bands.
Other than Bollinger Bands and moving averages, you could also explore other tools such as the correlation tool, and currency strength tool. These are just a few of the plethora of resources that can help you improve your trading performance.
Besides tools and research, if you find yourself lacking in trading ideas, you can always visit our very own OANDA Prop Trader Community. This community is the place for you to learn from experts and be inspired by other traders’ successes. When you join the community, you'll not only get trade ideas, but you'll also earn coins that you can use to redeem rewards.
Start trading smarter by joining our community now.
