Trend Line Bollinger Band® Stop Strategy

Discussion in 'Trading Strategies' started by Dary, Oct 17, 2013.

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  1. Dary

    Dary Dary McGovern Staff Member

    Strategy Overview

    Where should you place your stop when the price is testing a point a support or resistance? A classic problem with using support and resistance levels or trend lines is getting 'spiked' out of a position. You may have made a perfectly good call, but placed a stop too close to the trend line or level.

    Consider the following scenario, were you are in a long position and the price is testing a support trend line. In the following chart, the price has spiked below the support trend line, yet still remains in an upward trend - where would you have placed your stop, and would you have been spiked out of the position as a result?

    2013-10-16_CX-GBPUSD.jpg


    A possible solution to this problem is to look at the price high, low trading range using indicators such as Bollinger Bands. A Bollinger Band band, based on 2 standard deviations and 20 interval periods, means that approximately 95% of the price data being analysed over the last 20 intervals, is between the Bollinger Bands. At a point of support, if the upper Bollinger Band breaks through a trend line, it is likely that the trend is over. At a point of resistance, if the lower Bollinger Band breaks through a resistance trend line, that typically means the trend has been broken.

    Continuing with the example of the long position, a stop can be set up to exit a position if the upper Bollinger Band crosses below the support trend line. Typically if the trend line or level is being spiked the trading range will increase and the upper Bollinger Band will remain above the support trend line or level as illustrated using the 15 minute and 1 hour interval charts:

    15 minute interval Bollinger Bands
    2013-10-17_CX-GBPUSD.jpg



    1 hour interval Bollinger Bands
    2013-10-17_CX-GBPUSD (2).jpg


    The choice of price interval should correlate with the level of risk that you are prepared to take. For example the 15 minute Bollinger Bands will converge quicker on a change of price trend than the 1 hour as illustrated above. This can result in smaller losses when there is a change of trend, however it increases the risk of being spiked out of the position.


    In this example both of the upper Bollinger Bands at 15 minute and 1 hour intervals remained above the selected support trend line and the strategy was successful:

    2013-10-17_CX-GBPUSD (1).jpg


    Strategy Execution

    You can use timetotrade to set up an alert based trade that will execute a trade if the Bollinger Bands cross a selected trend line. In the following example an alert based trade will be set to exit if the upper Bollinger Band closes below the selected support trend line, up using a 15 minute interval Bollinger Band.


    To begin add Bollinger Bands to your chart using the chart settings. Now draw your support trend line and click on the trend line that you want to use in the alert. While it is selected click on the alert triggers in the bottom left of the chart as illustrated:

    Bollinger_Band_Stop_2.png


    Click on the 'Add Trigger' to create the alert. Add a trade to the alert, which in this case will be to sell 100,000 GBP/USD 'if long' when the upper Bollinger Band breaks through the selected trend line as illustrated:

    Bollinger_Band_Stop.png

    Note that on the trade interface, 'when the alert is triggered if long, execute trade' is set. This means that if I manually exit the position, or set up other stops, then should the upper Bollinger Band cross the line and I have no open position, the trade will not be executed. Please also note that the term stop is loosely used. The actual trade is to sell if long when the alert conditions are met.


    Strategy Conclusion

    The use of Bollinger Bands or indicators such as the price plus the Average True Range, provide an effective means for managing the placement of stops. What has to be carefully considered is the choice of price interval used to find the balance between not being spiked out and significant losses that may arise if a longer interval period is used.

    As with any strategy it should be simulated until you have a clear understand of the average loss when you get stopped out, which in turn can be used to help establish target take profit levels to have a balanced risk reward strategy.
     

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  2. Dary

    Dary Dary McGovern Staff Member

    The following is a short video of a trade set up on GBPUSD, using a Bollinger Band as a stop if the Upper Bollinger Band broke through a support trend line, and price hitting a resistance trend line as a take profit order.

     
    Last edited: Feb 29, 2016

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