Technical analysis plays a crucial role in the stock trading, providing traders with valuable insights to make informed decisions. Among the various tools available, Bollinger Bands have gained significant popularity. If you want to invest in stocks and looking for some technical analysis to get into or exit a stock, this tool can help you. In this article, we will get into the concept of Bollinger Bands, exploring how to use them effectively, analyzing with 2 live examples which shows 7% to 10% returns in 3-4 months. We would also understand the risk factors involved in such technical analysis.
What is Bollinger Bands in Stocks?
Bollinger Bands consist of three lines plotted on a price chart: the middle band, an upper band, and a lower band. The middle band is typically a 20-period simple moving average (SMA) of the asset’s price. The upper and lower bands of the chart are calculated based on the standard deviation of the price from the middle band on the chart.
The purpose of Bollinger Bands is to provide a visual representation of price volatility and potential trading opportunities. As volatility increases, the bands expand, and during periods of low volatility, they contract. Traders can use these bands to identify potential overbought or oversold conditions and gauge the likelihood of a price reversal.
Pls see the example of Reliance here to understand these 3 lines better. This is the screenshot from the Zerodha day wise chart in the last 6 months.
How to Use Bollinger Bands?
To effectively utilize Bollinger Bands, traders can consider the following strategies:
1) Identifying Overbought and Oversold Conditions: If the price reaches the upper band, it could mean the stock is overbought, which may lead to a potential price decrease. On the other hand, if the price hits the lower band, it could suggest the stock is oversold, indicating a potential price increase.
2) Spotting Price Breakouts: When the price breaks out of the Bollinger Bands, it might indicate a significant price movement. Traders often see this as a signal that the trend will continue, allowing them to decide whether to enter or exit positions.
3) Assessing Volatility Squeeze: When the Bollinger Bands contract and become closer together, it signifies a period of low volatility. This is often followed by a period of high volatility, where the bands expand again. Traders can anticipate potential price breakouts by paying attention to these periods of volatility squeeze.
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How Bollinger Bands work – Explained with 2 Stocks as live example
Let’s examine two real-life examples to demonstrate the application of Bollinger Bands. We have taken these screenshots from Zerodha and specific stocks on daily candles.
1) HDFC Bank: As per Bollinger Band, in the last few months, we got entry point for 2 times and exit points for 2 times. (click the below picture to enlarge)
First entry – Rs 1,560 and exit at Rs 1,700 (8.9% profit) – in 3 months
Second entry – Rs 1,540 and exit at Rs 1,660 (7.7% profit) – in 3 months
2) Infosys: This stock was beaten up in recent times. However, see the beauty of the Bollinger Band technical analysis. We got entry point for 2 times and exit points for 2 times. (click the below picture to enlarge)
First entry – Rs 1,450 and exit at Rs 1,600 (10.3% profit) – in 3 months
Second entry – Rs 1,230 and exit at Rs 1,320 (7.3% profit) – in 3 months
Risks in Using Bollinger Bands
While Bollinger Bands are a powerful tool, it is important to recognize the associated risks:
False Signals: Like any technical indicator, Bollinger Bands are not infallible. False signals can occur, leading to incorrect trading decisions if relied upon solely.
Whipsaw Movements: In volatile market conditions, prices can quickly move back and forth across the bands, generating whipsaw movements. Traders should exercise caution and consider combining Bollinger Bands with other indicators to confirm signals.
Limited Application: Bollinger Bands work best in trending markets. In range-bound or choppy markets, the bands may provide less reliable signals, making it essential to adapt to different market conditions.
How to identify such stocks?
There are several scenarios available in the markets now. However, I would recommend that first select some stocks which you want to invest and then add Bollinger Band indicator (from the indicator section wherever you are seeing the stock candle chart) to check whether it is the right time to enter or not.
5 Stocks where the Bollinger Band gave buy signal now?
As of the day of writing the article, below are some sample Nifty50 stocks that are trading at the lower end where Bollinger band technical analysis gives buy signals. These are indicated only for educational purposes and do not constitute any stock recommendations. You can study them and track the accuracy of the technical analysis.
#1 – Wipro –Rs 381
#2 – TCS – Rs 3,174
#3 – Kotak Bank – Rs 1,830
#4 – ICICI Bank – Rs 926
#5 – SBI – Rs 566
Conclusion: Bollinger Bands serve as a valuable tool in the trader’s arsenal, helping to identify price volatility, potential entry or exit points, and the likelihood of price reversals. By understanding how to use Bollinger Bands effectively and being aware of the associated risks, traders can enhance their technical analysis and make more informed trading decisions. However, it is crucial to remember that Bollinger Bands should not be used in isolation but as part of a comprehensive trading strategy that incorporates other indicators and analysis techniques. With practice and experience, traders can harness the power of Bollinger Bands to improve their overall trading performance.
Disclaimer: This technical analysis is provided for educational purpose only. Investors can understand how this concept work with live examples and does not constitute any recommendation to invest in these stocks. I have not invested in any of the stocks as of the day of writing the article, however can invest in future.
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