The Bollinger Bands indicator is a popular technical analysis tool created by John Bollinger. It consists of a middle band, which is a simple moving average, and two outer bands that are standard deviations of the middle band. The purpose of this indicator is to identify volatility and potential price reversals.
The middle band represents the average price over a specified period, typically 20 days. The upper band is calculated by adding two standard deviations to the middle band, while the lower band is calculated by subtracting two standard deviations from the middle band. The standard deviation is a measure of volatility, and by widening during periods of high volatility and narrowing during periods of low volatility, Bollinger Bands help traders determine the range in which prices are likely to move.
When prices approach the upper band, it is considered overbought, indicating a potential reversal or decrease in price. Conversely, when prices approach the lower band, it is considered oversold, suggesting a potential reversal or increase in price. Traders often use Bollinger Bands in conjunction with other technical analysis indicators to confirm trading signals.