Bollinger bands were created by John Bollinger in the early 1980’s. They have since become widely popular and are used by many traders to assist in timing entry or exits. Any book covering technical analysis of either Forex or Stock trading will definitely feature Bollinger Bands.

John Bollinger himself described Bollinger bands as follows:

“The purpose of Bollinger Bands is to provide a relative definition of high and low. By definition prices are high at the upper band and low at the lower band. This definition can aid in rigorous pattern recognition and is useful in comparing price action to the action of indicators to arrive at systematic trading decisions.

Bollinger Bands consist of a set of three curves drawn in relation to securities prices. The middle band is a measure of the intermediate-term trend, usually a simple moving average, that serves as the base for the upper band and lower band. The interval between the upper and lower bands and the middle band is determined by volatility, typically the standard deviation of the same data that were used for the average. The default parameters,20 periods and two standard deviations, may be adjusted to suit your purposes.”

Traders have built entire trading systems based on these Bollinger Bands. We at iFXG decided to put them to the test by backtesting usage of Bollinger bands as a trading system.

Bollinger Band Put To the Test

In our system, we decided to go long when a low price crosses above the lower Bollinger Band, and sell when it crosses the upper band. Simultaneously, we enter a Short position to ride the same trend in reverse: When a high price crosses under an upper band we go short.
This is illustrated below:

Image courtesy of TradeStation

The diagram above illustrates a low crossing over the lower band, which was our indicator for going long.

Currency Pairs

We tested 5 currency pairs:

•    EURUSD
•    EURCHF
•    USDJPY
•    EURGBP
•    USDCAD

Time frame

We backtested over a 2 year period when testing on a daily chart, and for 10 months on the 4hr and 1hr charts.

The Results

How did the system perform? Based on the results, it clearly is not likely that you will make money using a pure Bollinger band strategy. The system was effectively a net loss on the 4hr and 1hr time charts, however, it did trend positive on the Daily chart over a 2 year back testing period.

As you can see above, the EURUSD brought in the best results., possibly due to it being a strongly-trending currency pair. The Bollinger bands were quite good at identifying a trend.

It should be noted that Bollinger Bands were not likely meant to be a complete trading system, and these results clearly prove that. They should, however, be used in conjunction with other trading tools to better time your entries and exits. Another good use for them is identifying volatility: When the upper and lower bands come closer together, it normally signifies increased volatility and can be used for trading breakouts.