How to calculate the upper and lower BOLL tracks? Is it more appropriate to choose 2 or 1.5 as the standard deviation multiple?

Introduction to Bollinger Bands

Bollinger Bands, commonly known as BOLL, are a popular technical analysis tool used by traders in the cryptocurrency market. Developed by John Bollinger, these bands help traders assess the volatility and potential price movements of an asset. The BOLL consists of a middle band, which is typically a simple moving average (SMA), and two outer bands that are calculated based on the standard deviation of the price from the middle band. The key components of Bollinger Bands are the upper band, middle band, and lower band. This article will delve into how to calculate the upper and lower BOLL tracks and discuss whether it is more appropriate to use 2 or 1.5 as the standard deviation multiple.

Calculating the Middle Band

The middle band of the Bollinger Bands is the foundation upon which the upper and lower bands are built. It is usually calculated using a simple moving average (SMA) of the asset's price over a specified period. For instance, if you are using a 20-day period, the middle band would be the average of the closing prices of the last 20 days.

• Select the period: Decide on the number of periods you want to use. Common choices include 20, 50, or 100 days.
• Calculate the SMA: Sum the closing prices of the asset over the selected period and divide by the number of periods.

For example, if the closing prices over the last 20 days are $100, $101, $102, ..., $120, the middle band would be calculated as follows:

[\text{Middle Band} = \frac{100 + 101 + 102 + ... + 120}{20}]

Calculating the Standard Deviation

The standard deviation is a crucial element in determining the width of the Bollinger Bands. It measures the dispersion of the asset's price from the middle band. To calculate the standard deviation, follow these steps:

• Calculate the mean: This is the same as the middle band, the SMA of the closing prices.
• Calculate the deviation from the mean: Subtract the mean from each closing price.
• Square the deviations: Square each of the deviations.
• Calculate the average of the squared deviations: Sum the squared deviations and divide by the number of periods.
• Take the square root: The standard deviation is the square root of the average of the squared deviations.

For the same example of 20 days with closing prices from $100 to $120, the standard deviation calculation would look like this:

[\text{Mean} = \frac{100 + 101 + 102 + ... + 120}{20}]

[\text{Deviation}_1 = 100 - \text{Mean}, \text{Deviation}2 = 101 - \text{Mean}, ..., \text{Deviation}{20} = 120 - \text{Mean}]

[\text{Squared Deviation}_1 = (\text{Deviation}_1)^2, \text{Squared Deviation}_2 = (\text{Deviation}2)^2, ..., \text{Squared Deviation}{20} = (\text{Deviation}_{20})^2]

[\text{Average of Squared Deviations} = \frac{\text{Squared Deviation}_1 + \text{Squared Deviation}2 + ... + \text{Squared Deviation}{20}}{20}]

[\text{Standard Deviation} = \sqrt{\text{Average of Squared Deviations}}]

Calculating the Upper and Lower Bands

Once you have the middle band and the standard deviation, you can calculate the upper and lower bands. The upper band is calculated by adding a multiple of the standard deviation to the middle band, while the lower band is calculated by subtracting the same multiple from the middle band.

• Upper Band: Middle Band + (Standard Deviation x Multiple)
• Lower Band: Middle Band - (Standard Deviation x Multiple)

The most commonly used multiple is 2, but some traders prefer to use 1.5 or other values. Using the example above, if the middle band is calculated as $110 and the standard deviation is $5, the upper and lower bands with a multiple of 2 would be:

[\text{Upper Band} = 110 + (5 \times 2) = 120]

[\text{Lower Band} = 110 - (5 \times 2) = 100]

If you use a multiple of 1.5, the calculations would be:

[\text{Upper Band} = 110 + (5 \times 1.5) = 117.5]

[\text{Lower Band} = 110 - (5 \times 1.5) = 102.5]

Choosing Between 2 and 1.5 as the Standard Deviation Multiple

The choice between using a standard deviation multiple of 2 or 1.5 depends on your trading strategy and the level of sensitivity you want the Bollinger Bands to have. A multiple of 2 will result in wider bands, which means fewer signals but potentially more significant moves when the price breaks out of the bands. A multiple of 1.5 will result in narrower bands, providing more signals but potentially more false positives.

• Using a multiple of 2: This is the standard setting and is preferred by many traders because it captures a larger range of price movements. It is particularly useful for identifying strong trends and significant reversals.
• Using a multiple of 1.5: This setting makes the bands more sensitive to price changes and can be beneficial for traders who want to catch smaller price movements. However, it may lead to more frequent but less reliable signals.

Practical Application of Bollinger Bands in Cryptocurrency Trading

In the context of cryptocurrency trading, Bollinger Bands can be used to identify potential buy and sell signals. When the price touches or crosses the upper band, it may indicate that the asset is overbought, and a potential sell signal could be considered. Conversely, when the price touches or crosses the lower band, it may indicate that the asset is oversold, and a potential buy signal could be considered.

• Identify overbought and oversold conditions: Use the upper and lower bands to determine when the price is deviating significantly from the mean.
• Look for price breakouts: When the price breaks out of the upper or lower band, it may signal the beginning of a new trend.
• Combine with other indicators: Bollinger Bands are often used in conjunction with other technical indicators, such as the Relative Strength Index (RSI) or Moving Average Convergence Divergence (MACD), to confirm signals.

Frequently Asked Questions

Q1: Can Bollinger Bands be used for all cryptocurrencies?

A1: Yes, Bollinger Bands can be applied to any cryptocurrency. However, the effectiveness may vary depending on the liquidity and volatility of the specific cryptocurrency. More liquid and less volatile assets tend to produce more reliable signals.

Q2: How often should I recalculate the Bollinger Bands?

A2: Bollinger Bands should be recalculated with each new data point, typically at the end of each trading period (e.g., daily, hourly, etc.). This ensures that the bands remain current and reflective of the most recent price movements.

Q3: Are there any other settings for the Bollinger Bands that I should consider?

A3: Yes, besides the standard deviation multiple, you can also adjust the period used for the moving average. Shorter periods (e.g., 10 days) will make the bands more sensitive to price changes, while longer periods (e.g., 50 days) will make them less sensitive. Experimenting with different settings can help you find the best configuration for your trading strategy.

Q4: Can Bollinger Bands be used for long-term investing in cryptocurrencies?

A4: While Bollinger Bands are typically used for shorter-term trading, they can also be applied to longer-term investing. Using a longer period for the moving average and adjusting the standard deviation multiple can help identify longer-term trends and potential entry or exit points for long-term investments.