How Bollinger Bands Indicator Works

Bollinger Bands indicator calculations uses standard deviation to plot the bands, default value used is 2.

Bollinger Bands Index Calculation

The middle Bollinger bands line is a simple moving average

The upper band line is: Middle line + Standard Deviation

The lower Bollinger band line is: Middle line - Standard Deviation

Bollinger Bands indicator considers the best default moving average to calculate the Bollinger bands to be 20 periods moving average and the bands are then overlaid on the trade chart price action.

Standard Deviation is a statistics concept. It originates from the notion of normal distribution. One standard deviation away from the mean average either plus or minus, will enclose 67.5 % of all price action movement. Two standard deviations away from the mean either plus or minus, will enclose 95 % of all price action movement.

This is why the Bollinger Bands indicator uses the standard deviation of 2 which will enclose 95 % of all price action. Only 5 % of Index trade chart price action will be outside the 3 Indices bollinger bands, this is why Stock Index traders open or close trade positions when price hits one of the outer Bollinger Bands.

The Bollinger Bands indicator main function is to measure and estimate price action volatility. What the Bollinger bands upper and lower limits try to do is to confine the price action of up to 95 percent of the possible closing Index prices.

Bollinger Bands indicator compares and analyzes current closing price with the moving average of the closing price. The difference between these 2 prices is the volatility of the prevailing price compared to the moving average. The price volatility will increase or decrease the standard deviations of the bollinger bands indicator.

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How Bollinger Bands Indicator Works

Bollinger Bands Index Calculation