Candlesticks + Bollinger Bands: Reading Volatility

Bollinger Bands are three lines drawn over the price chart: a moving average in the middle, and one band above it and one below. John Bollinger, a market analyst, developed them in the early 1980s. They answer one question:

Is price high or low compared with how much it has been swinging lately?

Older bands sat a fixed percentage above and below an average, and someone had to widen or narrow them by hand when the market changed. Bollinger set the distance from the market itself, using a measure of how widely recent closes are spread around their average. When price swings hard, the bands move apart. When it goes quiet, they close in. A fast run in one direction spreads the closes too, so a fast trend widens the bands just as choppy swings do.

In Bollinger’s own words, the bands give a relative definition of high and low: price at the upper band is high, and price at the lower band is low, for that stock at that moment. Relative is the key word. It does not mean too high or too low to last.

The standard setting uses the last 20 closes, on any bar length: 20 days on a daily chart, 20 weeks on a weekly one.

Standard deviation measures how far the closes are spread around their average. If the last 20 closes all sat near $50, it is small. If they ranged from $44 to $56, it is large. Bollinger uses the population form, which divides by 20, not by 19. Some charting tools use the other form, which makes the bands about 2.6% wider, so the same stock can show slightly different bands on two platforms.

Other lengths. 20 periods is a starting point, not a rule. Bollinger’s published rules say a shorter average needs a narrower band and a longer one a wider band: about 1.9 standard deviations for 10 periods and about 2.1 for 50. Many websites quote 1.5 and 2.5 for the same two lengths instead. The direction of the adjustment is the same in both; the size differs.

Volatility is how much price swings. The bands are a picture of it: their width tells you how volatile the stock has been over the last 20 sessions. They say nothing about which way it will go next. A fast run up or down widens them, and a slow grind either way can keep them narrow.

Because the bands follow volatility, they also change the meaning of a move. In a quiet stock, a close just $1 below the 20-day average can reach the lower band. After a violent sell-off, the same stock might need to close $4 below it. “At the lower band” always means “far from the average, measured against recent swings”, never a fixed price.

Notice two things in the chart. First, the bands are widest just after the plunge, not before it: the violent days stay in the 20-day window for a while. Second, the long quiet drift lets the bands shrink until they almost touch the price line. Both matter when you judge a reversal candle, as the sections below show.

For volatility measured in plain price terms, see Candlesticks + ATR. ATR tells you how far a stock typically travels in a day. The bands tell you where price sits against its recent swings.

%B (said “percent B”) turns the close’s position into one number:

%B = (close − lower band) ÷ (upper band − lower band)

A %B of 1 means the close is on the upper band, 0.5 on the middle band, and 0 on the lower band. Above 1 means a close above the upper band; below 0, a close below the lower band.

Take a stock whose 20-day average is $50 and whose standard deviation is $1.50. The upper band is $53 and the lower band $47. A close at $47.60 gives a %B of 0.10: near the lower band, still inside it. A close at $46.40 gives a %B of −0.10: below it.

%B is most useful for comparing two lows. Bollinger’s classic bottom is a W: price makes a first low outside or at the lower band, bounces, then makes a second low, sometimes lower in price, that stays inside the band. When price is lower but %B is higher, the second push down was weaker, measured against the recent swings. It is the same idea as the divergence taught in Candlesticks + RSI, measured with the bands instead.

BandWidth measures how far apart the bands are, as a percentage of the middle band:

BandWidth = (upper band − lower band) ÷ middle band × 100

In the example above, the bands are $6 apart around a $50 average, so BandWidth is 12. Dividing by the average lets you compare a $20 stock with a $500 one, and today’s reading with last year’s. Some platforms skip the ×100 and show the same reading as 0.12.

The squeeze is Bollinger’s name for BandWidth at an unusually low level. His rule of thumb is BandWidth at its lowest reading in about six months. It means the stock has gone quiet, and quiet periods tend to be followed by busier ones. Volatility comes and goes in cycles.

A squeeze does not tell you the direction. It says a larger move is likely, not whether it will be up or down. Bollinger also warns of the head fake: price breaks out of a squeeze one way, then turns and makes the real move the other way. Let price show its hand first. A close outside a band after a squeeze is the first clue to direction, and a weak break that falls straight back inside is a warning.

The most common misreading of the bands is to treat a close outside them as a reversal waiting to happen. Bollinger says the opposite. Closes outside the bands are, at first, continuation signals: signs the move is still going, not that it is about to turn.

In a strong trend, price can walk the band: close at or beyond the upper band again and again as it climbs, or along the lower band as it falls. The bands widen to make room, and the walk can last for weeks. The chart above shows both. On the way down, price closes below the lower band day after day until the plunge low. After the squeeze, it closes above the upper band day after day.

Bollinger’s own summary: tags of the bands are just tags, not signals. Touching the upper band is not a reason to sell, and touching the lower band is not a reason to buy. What you do at a band depends on what price does next.

A bullish reversal candle shows buyers pushing back after a decline. The bands tell you how far that decline reached, measured against recent swings. Use them together in three steps:

For example, a Hammer whose long lower shadow pokes below the lower band while the candle closes inside it, shows the day’s sellers pushing to an extreme and buyers taking it back before the close. A Bullish Engulfing can do it over two days: the first candle closes below the band, and the second closes back inside and above the first one’s open. A Morning Star spreads it over three.

Now the opposite case: a Hammer that closes below the lower band, in a stock that has closed below the band for several days running. The candle shows some buying, but the closes say price is still walking the lower band. Wait for a close back inside before reading it as a turn.

On Reversal Setups, a Bollinger squeeze chip and filter mark setups whose bands have narrowed unusually, and a setup’s full chart draws the bands when they are squeezed.

The same candle at the lower band means different things depending on how wide the bands are.

After a plunge, the bands are wide. Price fell fast, often closing below the lower band on heavy selling, sometimes called capitulation: holders giving up and selling at any price. A reversal candle that closes back inside after that says the forced selling may be done. But wide bands also mean big daily swings. A sensible stop-loss (the price where you would exit if the trade fails) has to sit further away, and the bounce can be just as violent as the drop.

After a quiet drift, the bands are narrow. The lower band sits only a little below the middle one, so reaching it takes only a small dip. A reversal candle there is a small event, not a washed-out low. A narrow band can also be a squeeze. A break below the band out of a squeeze can be the start of a walk lower or a head fake; only the closes that follow tell you which.

Neither case is better in itself. They call for different expectations: a plunge low asks how much room you need, and a quiet drift asks whether the coming move will be up at all. For reading the edges of a sideways market, see Candlesticks + Trading Ranges.

They are not statistical guarantees. Two standard deviations sounds precise, but prices are not neatly distributed, and Bollinger himself warns against drawing statistical conclusions from the bands. Closes outside them are more common than textbook statistics suggest, and they cluster in trends.

They lag. The bands are built from the last 20 closes. They widen after a burst of volatility, not before it.

They overlap with other price tools. %B and RSI are both built from the closes, so they tend to agree with each other. Bollinger suggests pairing the bands with something measured differently, such as volume. See Candlesticks + Volume or Candlesticks + On-Balance Volume.

Bollinger Bands don’t make a candlestick pattern work. They tell you how far price has stretched against its own recent swings, and whether those swings are growing or shrinking.

So when you check the bands behind a bullish reversal candle, ask one question: “Has the selling stopped stretching price further?” A low at or below the lower band followed by a close back inside says it may have. Closes still walking the lower band say not yet.

This is one of seventeen context guides in this series: Candlesticks + Moving Averages for trend structure, Candlesticks + RSI for how stretched a move is, Candlesticks + MACD for momentum, Candlesticks + ADX for trend strength, Candlesticks + Volume for conviction, Candlesticks + On-Balance Volume for volume flow, Candlesticks + Accumulation/Distribution for where the close fell, Candlesticks + Volume Spread Analysis for reading each bar’s effort and result, Candlesticks + Volume Profile for the prices where volume traded, Candlesticks + Anchored VWAP for the average price paid since a turn, Candlesticks + Fibonacci for retracement levels, Candlesticks + ATR for daily range, Candlesticks + Multi-Timeframe Analysis for the weekly trend, Candlesticks + 52-Week High/Low for where price sits in its yearly range, Candlesticks + Trend Channels for where in the trend price sits, and Candlesticks + Trading Ranges for sideways markets. New to candles? Start with the candlestick basics guide.