A LOOK AT BOLLINGER BANDS IN THREE DIFFERENT TIME DIMENSIONS
A TRIBUTE TO JOHN BOLLINGER ... In honor of John Bollinger's having received the MTA Annual Award this past weekend, I thought it an appropriate time to write about his greatest invention which are aptly called Bollinger bands. Chart 1 shows the bands applied to a daily chart of the S&P 500. The middle line is a 20-day moving average. The two bands are plotted two standard deviations above and below the middle line. You'll notice that peaks and troughs often form near the two outer bands. The late April bottom occurred at the lower band. While the bands help determine short-term extremes, the middle line helps determine the short-term trend. A close over the 20-day line turns the short-term back up again. That positive turn took place last Monday. The bands also help give short-term price targets. The fact that prices have reached the upper band doesn't mean they can't go higher. It just means they're moving into potentially overbought territory. The 20-day line should now act as support.
Chart 1
WEEKLY BOLLINGER BANDS ... I find weekly Bollinger Bands more useful for finding intermediate-term price targets and potential turning points. Chart 2 shows why. Three of the last bottoms (last May, August, and this April) occurred at the lower Bollinger band. The peaks in early 2004 and 2005 occurred at the upper band. It's always a good idea to combine band analysis with an oscillator. Notice, for example, that the band bottom last August coincided with a positive oscillator divergence. Conversely, the February band top coincided with a negative oscillator divergence. More recently, the S&P bounce off its lower band coincided with a weekly oversold oscillator. With the 20-week midline having been exceeded, there's a good chance for a move to the upper band.
Chart 2
MONTHLY TREND IS STILL UP ... I recently showed the monthly Bollinger bands to show how well the middle line (the 20-month moving average) defined the market's major trend. The S&P fell below the 20-month line (red circle) in 2000 and correctly signaled a bear market. It crossed back over the 20-month line (green circle) in the spring of 2003 and correctly signaled the start of the cyclical bull market. Just recently, the S&P survived a test of the 20-month line (blue arrow). Its upper band (where resistance lies) is just over 1220 (as it does on the weekly band). It's not a good idea to use Bollinger bands alone. As with any other technical indicator, it works best when combined with other technical criteria. It's one of the best trading tools around however. And we have John Bollinger to thank for that.
Chart 3
CNBC TOMORROW AFTERNOON ... I'm scheduled to appear on CNBC's Street Signs with Ron Insana tomorrow (Tuesday) afternoon at approximately 2:20 pm (NYT). Tune in if you can.
