Using Bollinger Bands to pick stocks

Bollinger Bands are one of my favorite technical indicators. I utilize them when analyzing a broad range of securities. Over the years, they have served me well in visualizing market action. This article will serve as a basic introduction to Bollinger Bands and provide three stocks that could be on the move higher.

What are Bollinger Bands?

Bollinger Bands were created by John Bollinger in the early 1980s as a way to measure volatility. They are an extension of the “trading bands” concept, first introduced by J.M. Hurst then further refined by Marc Chaiken. At the most simple, Trading Bands are Moving Averages that envelope price bars on a chart. John Bollinger is credited with developing a statistically based standard for the price bands, building trading concepts around them, and popularizing their use. Standard Bollinger Bands consist of a 20 period Moving Average, an upper band 2 deviations above the MA, and a lower band 2 deviations below the MA.

What Bollinger Bands do and How to use them

Bollinger Bands allow the trader to visually determine if price is high or low on a relative basis. This means high or low as price relates to the average, which is the middle line or 20 period MA. One can see if price is over extended one way or another if the price bar pushes or breaks through the upper or lower band. The idea is to short if the upper line gets pierced or hit, in the belief that price will soon revert back to the mean ( the middle line), or to buy should the lower line get hit or pierced awaiting the reversion to the mean.

It important to keep in mind that price can ride the upper or lower band for sometime prior to reverting to back to the mean. Therefore, this shouldn’t be used in and of itself as a buy or sell signal but rather as a confirmation tool for other indicators. For example, the price bar pierces the upper line, but your other indicator does not confirm the bullish strength— this is a sell trigger. If the indicator does confirm and you are already in the trade, this is a sign to stay in the trade. 

I don't normally include Bollinger Bands in the charts that I publish on TSP because they tend to clutter up the chart, but I do check them to see whether they might be a factor.

Now you have a basic understanding of Bollinger Bands and how to use them. Its important to remember that the bands are better used as a divergence confirmation indicator rather than stand alone trading tool.  However, for market analysis purposes, the bands alone have many uses to help you visualize the state of the market (and of a particular stock).

3 Stocks on the Move

Star Scientific, Inc. (CIGX) – potential Short

I am looking for the downside on this one.  The stock is up sharply and is tracking the top of the Bollinger Bands.  The company is overheated in my opinion and I would watch for the other underlying indicators (MACD and Stochastics…maybe On Balance Volume) to see when this is going to fall.

China Integrated Energy (CBEH) – Toxic and loving it!

This one that I am NOT recommending.  It got hit in the CCME/China Small Cap meltdown.  The Bollinger Bands were very narrow which is often a sign of an impending move either up or down.  With the negative press around China small caps, smart money was betting to the downside.  Even before the CCME mess, short interest on CBEH was over 30%.  30%!

Alliance Healthcare Services, Inc. (AIQ) – Time to Go LONG?


Trading at bottom of Bollinger Bands, MACD looks like it might cross, Stochastics are on the increase - Definitely one to watch.


Bollinger Bands are fun.  They give traders some additional intelligence about possible movements on a stock.  They are not a stand-alone indicator, but rather should be looked at in conjunction with other key indicators.  But, they are important for proper technical analysis of any stock.

Good Trading,

Jeffrey Dean

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