Bollinger Bands Width Indicator – Strategy, Returns, Performance, Statistics

The Bollinger Bands is a very popular indicator for performing different kinds of market analysis, but when it comes to extracting information about price volatility, it’s the domain of its offspring, the Bollinger Bands Width. What do you know about this indicator?

The Bollinger Bands Width is an offshoot of the Bollinger Bands indicator that specifically tracks market volatility by measuring the percentage difference between the upper and lower Bollinger bands. It increases when the Bollinger Bands expand and reduces when the bands contract. Thus, it is used to track market consolidation (squeeze) that often precedes periods of significant price movements in either direction.

In this post, we will take a look at the details of the Bollinger Bands Width: what the indicator is about and how to calculate it, interpret it, and use it in trading. Let’s dive in!

Table of contents:

Key takeaways

  • Bollinger Bands is a technical analysis indicator developed by John Bollinger to monitor market volatility and highlight overextended price actions—instances when the price significantly deviates from its mean.
  • The Bollinger Bands Width is a derivative of the Bollinger Bands indicator, designed to specifically measure market volatility by calculating the fractional difference between the upper and lower Bollinger bands.
  • As a stock’s volatility increases, the gap between the upper and lower bands expands, resulting in a higher Bollinger Bands Width.
  • Conversely, when market volatility decreases, the distance between the bands narrows, leading to a lower Bollinger Bands Width.
  • This post is just one of the many trading indicators we have written about.

What are Bollinger Bands in stock trading?

In stock trading, Bollinger Bands is a technical analysis indicator created by John Bollinger to track market volatility and show overextended price actions — when the price deviates significantly from its mean.

The Bollinger Bands Width is an offshoot of the Bollinger Bands indicator that specifically tracks market volatility by measuring the fractional difference between the upper and lower Bollinger bands.

When a stock’s volatility is rising, the distance between the upper and lower Bollinger bands widens, and the Bollinger Band Width increases. On the other hand, when the market volatility falls, the distance between the two bands contracts, and the Bollinger Band Width decreases.

Generally, the price has a tendency to consolidate before significant moves happen, and the reverse is also true — significant moves tend to be followed by periods of consolidation.

The Bollinger Bands tracks this by contracting during consolidations (low volatility or squeeze) and expanding during significant price moves (increased volatility). The Bollinger Band Width captures that part of the Bollinger Bands that tracks this. Hence, traders use it to track market consolidation (squeeze) that often precedes periods of significant price movements in either direction.

Below is an example of how the indicator looks like on a chart (lower pane):

Bollinger Bandwidth example
Bollinger Bandwidth example

How is the width of Bollinger Bands calculated?

The width of Bollinger Bands is calculated by subtracting the lower Bollinger band from the upper Bollinger band. W = Upper Bollinger Band – Lower Bollinger Band.

However, the Bollinger Bands Width indicator calculation goes beyond this absolute difference between the bands. It normalizes this difference and turns it into an oscillator by dividing it by the middle band (the n-period moving average). This creates a fractional value that ranges from near zero to 1. Some platforms go ahead to convert this to a percentage by multiplying it by 100.

Thus, the Bollinger Bands Width indicator formula is given as follows:

Bollinger Bands Width = (Upper Bollinger Band – Lower Bollinger Band) / Middle Bollinger Band

Or

Bollinger Bands Width = [(Upper Bollinger Band – Lower Bollinger Band) / Middle Bollinger Band] x 100

Bollinger Bands Width trading strategy – trading rules, returns, performance

It’s time to put the indicator to the test. To do that, we make trading rules and backtest them. We do it systematically, with no anecdotal evidence!

We make the following trading rules:

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These three simple trading rules have returned the following equity curve for the S&P 500 (SPY) from its inception until today:

Bollinger Bands Width strategy
Bollinger Bands Width strategy

Let’s look at the statistics and trading performance metrics:

Table of Key Statistics (Bollinger Bands Width)

Statistics/Metrics/Key Data/PerformanceValue
Number of trades301
Average gain per trade0.42%
CAGR (Compound Annual Growth Rate)3.8%
Win rate59%
Average winning trade1.7%
Average losing trade-1.4%
Max drawdown19%
Time invested in the market3.8%
Risk-adjusted return (CAGR divided by the time spent in the market)100%

Is the strategy overfitted?

When we optimized the strategy, the sweet spot seemed to be a relatively short lookback period between 5 and 10 days. However, remember that the best settings vary from asset to asset.

Bollinger Bands Width – complete code

Here’s the complete code for the strategy:

THIS SECTION IS FOR MEMBERS ONLY. _________________ BECOME A MEBER TO GET ACCESS TO TRADING RULES IN ALL ARTICLES CLICK HERE TO SEE ALL 350 ARTICLES WITH TRADING RULES

Why is the width of Bollinger Bands important?

The width of Bollinger Bands is important because it tracks market volatility. When the market volatility increases, the width of Bollinger Bands (distance between the upper and lower Bollinger bands) will expand, and the Bollinger Band Width indicator rises.

On the other hand, when the market volatility is decreasing (price is consolidating), the width of the Bollinger Bands contract, and the Bollinger Band Width indicator declines toward zero.

Given the tendency for the width of Bollinger Bands to alternate between expansion and contraction, when it expands, it often signals that the current price movement may be nearing its end. Likewise, when the width of Bollinger Bands contracts, it often signals a squeeze in price action, which is usually followed by an explosive move in either direction.

How do Bollinger Bands indicate market volatility?

Bollinger Bands indicate market volatility by using the statistical measure of variability — the standard deviation — to measure price variation from its moving average (the mean).

Thus, the key components of the Bollinger Bands are a 20-period simple moving average, which forms the middle band, and the number of standard deviations from the middle band at which the upper and lower bands are plotted.

Since standard deviation is a measure of variation and market volatility is an expression of price variations, Bollinger Bands is a good method to indicate market volatility. When the width of Bollinger Bands is expanding, it means that market volatility is increasing, and when the width is contracting, it means that market volatility is decreasing.

What does a narrow Bollinger Bands Width suggest?

A narrow Bollinger Bands Width suggests that there is a squeeze in price action. In other words, the market is in a tight consolidation. Since the price has a tendency to consolidate before making a huge move, a narrow Bollinger Bands suggests that a significant price move will soon happen in either direction.

Traders can use it to plan their trading strategies, especially breakout strategies. The narrower the width, the bigger the potential move. And when the move happens, the width expands to match the move.

What does a wide Bollinger Bands Width indicate?

A wide Bollinger Bands Width suggests that there is an increase in market volatility and is moving in one direction. In other words, the market has just made a significant move in one direction. Since the price tends to reverse or at least pull back after a significant move, a wide width of the Bollinger Bands suggests that the market may reverse, pull back, or consolidate.

Experienced mean-reversion traders can use it to plan their trading strategies, as they try to trade the price’s reversion to its mean after the significant deviation. The wider the width, the more likely the potential reversion. And when the reversion move happens, the width contracts to show the halt in price advance.

How can Bollinger Bands Width help predict market trends?

Bollinger Bands Width can help predict market trends by showing the phase of the market cycle and the level of volatility in the market. In terms of volatility, when the Bollinger Bands Width is declining, it means that market volatility is falling and the market may not be trending — it’s in a consolidation.

Conversely, when the width indicator is rising, it means volatility is increasing and the market is likely trending in one direction.

On the aspect of the phase of the market cycle, the price tends to alternate between periods of consolidation and trend. The Bollinger Bands Width tracks this by contracting during a consolidation (squeeze) and expanding during significant price moves (increased volatility). This is why traders use it to track the price squeeze that often precedes a significant price movement in either direction for breakout trades.

What are typical settings for Bollinger Bands?

The typical settings for Bollinger Bands are a 20-period simple moving average (SMA) for the middle band and 2 standard deviations for the upper and lower bands. However, you can change the settings to whatever suits the market you want to trade and the strategy you are using.

For instance, in a market that trends very well, the default settings of 20-period SMA and 2 standard deviations may work well for a breakout strategy where you enter the market when the price breaks out of a price squeeze (tight consolidation). On the other hand, in a market that frequently mean-reverts, a 50-period SMA and a 2.5-3 standard deviation may prove the best settings to overextended price actions that are more likely to reverse to the mean.

How do Bollinger Bands adjust to different market conditions?

The Bollinger Bands adjusts to different market conditions by contracting and expanding its width in response to market trends and price volatility. When the volatility is low or the price is consolidating, the width of Bollinger Bands contracts and becomes narrow to reflect that market condition.

On the other hand, when the volatility is high and the price is trending in one direction, the width of Bollinger Bands expands to reflect that market condition.

Can Bollinger Bands Width signal a potential price breakout?

Yes, Bollinger Bands Width can signal a potential price breakout by showing when the price is in a tight consolidation and ready to explode in either direction. In such a situation, the with of Bollinger bands narrows, showing a price squeeze, while the Bollinger Bands Width indicator falls toward zero and stays flat.

When this happens, a potential breakout is imminent as the price tends to move from a phase of consolidation to a trending phase. The narrower the width and the lower the width indicator, the more explosive the subsequent price movement after the breakout.

How do traders use Bollinger Bands Width with other indicators?

How traders use the Bollinger Band Width with other indicators depends on the strategy they are using. Traders who are using a breakout strategy can combine the indicator with trend indicators/tools, such as moving averages or trendlines, or use it with price action analysis to find chart patterns that could suggest the direction of the potential breakout.

Mean-reversion traders, on the other hand, may combine it with momentum oscillators, such as the RSI or stochastic, which show overbought/oversold conditions and reversal momentum.

What is the difference between Bollinger Bands Width and standard deviation?

The difference between Bollinger Bands Width and standard deviation is that standard deviation measures the degree of price variation from its mean, while Bollinger Band Width measures the fractional or percentage difference between the upper band and the lower band.

However, both track the same thing, which is the level of volatility in the market. During periods of high volatility, the standard deviation increases, and similarly, the Bollinger Bands Width indicator rises as the width of the bands expands. Conversely, during periods of low volatility, the standard deviation decreases, and similarly, the Bollinger Bands Width indicator falls toward zero as the width of the bands contracts.

How does the moving average affect Bollinger Bands Width?

The moving average of the Bollinger Bands directly affects the Bollinger Bands Width indicator since it is the denominator in its calculation.

In the calculation of the Bollinger Bands Width indicator, the moving average is used to divide the absolute difference between the upper and lower Bollinger bands so as to normalize the value to an oscillator.

What role does volume play in interpreting Bollinger Bands Width?

Volume does not play a direct role in interpreting Bollinger Bands Width, but it can improve your analysis of the situation by showing the level of market activity and volume of transactions associated with the price action, which can give a hit about the presence of smart money in the market.

For instance, if the Bollinger Bands Width is decreasing — suggesting price consolidation — and the volume is rising, it could mean that smart money is either accumulating or distributing and could soon push the price in one direction or another.

How can Bollinger Bands Width guide entry and exit points?

Bollinger Bands Width can guide your entry and exit points by showing you when the price is likely consolidating or trending. When the Bollinger Bands Width is decreasing toward zero and flat, it means the market is in a tight consolidation so you get ready to enter on a breakout.

Conversely, when the indicator is rising so fast toward 1 (100%), the price might be getting overextended in that direction.

Are there common trading strategies using Bollinger Bands Width?

Yes, there are common trading strategies you can use with the Bollinger Bands Width indicator. One of them is the mean-reversion strategy which you can use to trade a reversal to the mean when the indicator is rising so fast, and the price is in an overbought/oversold condition.

Another is the breakout strategy, which you can use if the indicator has fallen toward zero and is flat, suggesting a price squeeze (tight consolidation) and an imminent potential explosive move in either direction.

How does Bollinger Bands Width compare to RSI in trading?

The Bollinger Bands Width indicator compares favorably to the RSI in trading. They are both oscillators that can be used to track potential price reversal. however, while the RSI is directional (moves in the same direction as the price), the Bollinger Bands Width indicator is non-directional. When it rises, it means that the price is moving significantly up or down.

Can Bollinger Bands Width predict stock price reversals?

Yes, the Bollinger Bands Width indicator can predict stock price reversals when used properly, alongside other tools, in the analysis of a stock’s price. The indicator is non-directional but extremely high values could suggest that the market is either overbought or oversold. But you will have to use other tools to confirm the signal.

What are the limitations of using Bollinger Bands Width?

The limitation of using Bollinger Bands Width is that the indicator is non-directional. So, it cannot tell you the direction of any market signal it gives. When the values are rising too high, suggesting a possible reversal, it doesn’t tell the direction of the reversal.

Also, when the values are declining toward zero, suggesting a tight consolidation, it cannot tell the direction of the potential breakout.

How do different time frames affect Bollinger Bands Width?

Different time frames do not directly affect the Bollinger Bands Width indicator, as the indicator will behave based on how the price moves. However, price movements in lower time frames are generally more noisy than those in higher time frames, and this can influence the indicator readings.

What are the best practices for setting up Bollinger Bands?

The best practices for setting up Bollinger Bands include:

  • Set it up in the context of a well-planned strategy
  • Use it along with other indicators or price action analysis
  • Backtest whatever strategy you create with it before putting your money on the line.

How can Bollinger Bands Width be used in day trading?

To use the Bollinger Bands Width indicator in day trading, you have to understand how the indicator works so you can combine it with other complementary analysis tools or indicators to create a robust strategy. Backtest the strategy on different intraday timeframes to know where it performs best.

What are the risks of relying solely on Bollinger Bands Width?

The risks of relying solely on Bollinger Bands Width are many. These are some of them:

  • Not knowing the market direction to trade.
  • Trading against the direction of the main trend.
  • Improper risk management as it can’t tell you the right position size or stop-loss level.

How does Bollinger Bands Width integrate with moving averages?

Bollinger Bands Width integrates with moving averages in different ways. First, the moving average of the Bollinger Bands is used in the indicator’s calculation by dividing the absolute difference between the upper and lower bands. Second, moving averages can be used to determine the trend direction when trading the indicator.

What are examples of successful trades using Bollinger Bands Width?

Here are some examples of successful trades using Bollinger Bands Width:

Example 1: US100 mean-reversion buy signal:

In the US100 chart below, you can see the price fell through the lower Bollinger Band and formed a series of reversal candle patterns, including a doji and a hammer. At the same time, the Bollinger Band Width (BBW) rose explosively, indicating an unstable price action with a potential for a reversal. What followed was a huge retracement to the middle Bollinger band (the mean).

Bollinger Bands Width trading rules
Bollinger Bands Width trading rules

Example 2: US100 breakout trade

In the chart below, you can see a tight price consolidation (grey rectangle). The BBW continued falling toward 0.00 as the price squeeze formed. Eventually, the price broke out of the rectangle (white arrow) and trended upward. Notice the fakey to the downside before the breakout. That offered more assurance that the upward breakout would happen.

Bollinger Bands Width settings
Bollinger Bands Width settings

How do market trends influence Bollinger Bands Width adjustments?

Market trends influence Bollinger Bands Width adjustments by causing the width to increase. When the market is trending and volatility is rising, the width indicator increases. On the other hand, when the market isn’t trending, the width value decreases.

Can Bollinger Bands Width be applied to all types of assets?

Yes, Bollinger Bands Width can be applied to all types of assets because its calculation is based entirely on price data, which can easily be obtained for any asset. This is unlike volume-based indicators, which can’t be reliably applied to the spot forex market because there is no central exchange from where to obtain reliable volume data.

What is the impact of market sentiment on Bollinger Bands Width?

The impact of market sentiment on Bollinger Bands Width can be huge because market sentiment can influence price volatility, which, in turn, influences Bollinger Bands Width. When market sentiment is high, the Bollinger Bands Width indicator is likely to rise, and when sentiment is low, the width decreases.

How can Bollinger Bands Width be used in algorithmic trading?

Yes, Bollinger Bands Width can be used in algorithmic trading if combined with other indicators to create reliable and robust strategies that are proven, through backtesting, to be profitable.

The interesting thing is that with trading algos, backtesting becomes a lot easier and faster. So, it’s even better to create Bollinger Bands Width strategies for algo trading.

What are the latest advancements in Bollinger Bands analysis?

The latest advancements in Bollinger Bands analysis include using multi-timeframe Bollinger Bands analysis to predict price movements and identify stronger turning points. Another is the use of automated systems to analyze the market, find trading opportunities, and execute trades in real-time.

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