Hi Gush,
Sorry... "BB" means Bollinger bands. I like to use these a lot. The top "rail" of the Bollinger band usually represents an area of relatively overbought conditions, and the bottom rail is an area of relatively oversold conditions. But BBs provide more than an indication of relative overbought/oversold conditions.
For example, if you study BBs, you will find that the width of the BBs is not constant, but tends to wax and wane. With some stocks or indexes, this is quite marked. With others, it is less obvious or not significant. On Stockcharts.com, you can dial in an indicator that will quantify the width of the BBs, and plot that with respect to time:
stockcharts.com[w,a]daclyyay[dd][pd20,2][vc60][iLyb20,2.0]&pref=G
BB width is most useful as an indicator when it gets to extreme levels. For example, in the chart of QQQQ above, a BB width of greater than 4 or less than 2 is an unstable condition that must revert back towards the normal range. Readings above 4 or below 2 are never maintained for very long. The lower the reading, the greater the contraction of the BBs.
With some stocks, this waxing and waning can be very periodic. But in general, when the BBs become extremely contracted, then the likelihood that the BBs will be "blown open" explosively becomes very high. Contracted BBs can be blown open ONLY by the stock pushing hard and fast against one rail or the other. In general, the clues as to which way this resolution might occur comes from other aspects of the chart.... is the stock in an uptrend, or a downtrend? Is it currently in a basing pattern that is a pause in that trend? The point at which the move takes places can sometimes be anticipated.
This chart for GOOG is maybe not such a good example, because the trading history is short. So, it is hard to know what constitutes a normal BB width for GOOG.
stockcharts.com[w,a]daclyyay[dc][pd20,2!b50][vc60][iLyb20,2.0]&pref=G
Notice in this chart of GOOG that the stock has been moving sideways in a cosolidation pattern, and as it has done so, the BBs have become increasingly contracted. And notice that the move that appears ready to open the BBs began when GOOG ran right into the 50 day sma. This is roughly equivalent in this case to the 40 day ema:
139.142.147.218
So the general rule is that if a stock is trading sideways, and the BBs are getting increasingly contracted, when the stock encounters a key support level such as a rising moving average, that is a likely place for a strong move to begin that will ultimately blow open the BBs. (the same is true for a downtrending stock that encounters a downsloping moving average, but everything is reversed, and the BBs will most likely get blown open to the downside).
Sometimes, you can use the BB width to identify highly unusual conditions that must resolve towards the norm, and can make predictions accordingly. For example, note the extreme "blip" in the BB width in this chart for TOM.
stockcharts.com[w,a]daclyyay[dc][pd20,2][vc60][iLyb20,2.0]&pref=G
Carefully examine how that was resolved. I think you can see that one might have predicted that the "blip" would most likely resolve by the stock moving up and away from the lower BB rail, which would in turn cause a contraction of the BBs back towards more normal values.
Keep in mind, however, that resolution of abnormal BB widths can often occur by very different mechanisms. It is important to see the possible mechanisms by which the conditions can be resolved. For example, BBs that are extremely wide in an uptrending stock can be resolved by the stock moving either sideways, or down, or even sharply down, or by the stock moving up but in a much more gradual fashion, depending on how wide the BBs are, and how sharply sloping the BBs are (or the 20 sma, which is the middle of the BBs). This is a bit hard to describe, but it is important to carefully examine each individual situation, and try to figure out the various ways that the unstable BB condition can be resolved. Then, one can often determine which of these is most probable, but this requires analysis of other chart and technical parameters, and careful analysis of the history of the stock and how it moves (its "personality"). These sorts of things tend to repeat themselves periodically.
Anyway, I have found that BB width can be a useful tool. Like many such things, it is more useful with some stocks than with others. And extreme readings are associated with greater probablities and reliabilities. And, BB width should never be used alone to guide trading entries and exits.
Hope this helps,
Terry |
