Trading with Bollinger Band Squeeze Breakouts

Bollinger Band Squeeze is a particular situation when the distance between upper and lower bands minimizes. It happens when market volatility gets extremely low. Traders use this situation as a trade signal hoping for a potential increase in volatility and substantial price movement.

Bollinger Band Squeeze can be a very fruitful signal for you as well. However, it is important to understand this squeeze concept. You also need to learn how to identify it and subsequently trade it for maximum gains. So, let’s begin!

Introduction to Bollinger Band

Probably most of you would be aware of Bollinger Band and don’t need an introduction. However, let’s give a quick recap for those who don’t understand this technical indicator. So, what is Bollinger Band?

Bollinger Bands is a technical indicator that traders use to identify volatility as well as the potential price range of security. John Bollinger developed the tool in the 1980s which consists of three bands or lines:

• The upper band
• The middle band (a simple moving average usually of 20 periods), 
• The lower band 

Now, the indicator works on a very simple mechanism. The width of the bands keeps on changing because it tracks the market’s volatility. So, when you observe the price of a security moving away from the moving average and towards outer bands, it indicates an increase in volatility. Contrarily, when the price stays within the bands, it indicates low volatility. 

Bollinger Band Squeeze breakout

After a quick recap of the Bollinger Bands, let’s learn what is Bollinger Bands Squeeze and Bollinger Bands Squeeze breakout. 

Bollinger Bands tend to contract when the price of security consolidates within a narrow range. This contraction of the bands is known as the Bollinger Band squeeze. It indicates that the volatility of the security has decreased. Additionally, trading within a narrow range also indicates that the traders are waiting for a substantial move. Therefore, traders also use Bollinger Band squeeze to predict an imminent breakout.

Now, what is Bollinger Bands Squeeze breakout? As the name itself suggest, it refers to a situation when the price of security breaks out of the narrow range. With more significant price movement, more significantly price moves away from the middle band. Thus, it indicates a major price movement traders were waiting for. Therefore, they open positions in direction of the breakout. 

How to identify a Bollinger Band Squeeze breakout?

To trade Bollinger Band Squeeze breakout, it is important to identify it. Look for the following key signals to precisely identify a breakout.

1. Look for the narrowing bands and wait for the bands moving closer to each other. As you already know, tight bands indicate low volatility in the market. 
2. Confirm the situation using other technical indicators that measure volatility. For instance, use the Average True Range (ATR), which is a good indicator to gauge volatility.
3. Keep looking for the beginning of the expansion of the bands. As soon as the price begins to move toward the upper or lower band, it indicates that volatility is increasing.
4. Finally, open a position in the direction of the breakout. As the price breaks above the upper band, it is a bullish breakout. Therefore, you can open a long position. Conversely, when the price breaks below the lower band, it is a bearish breakout. Therefore, you can open a short position.

However, you also need to keep in mind a false breakout when trading the Bollinger Band Squeeze breakout. A false breakout can occur which causes significant losses for traders. Therefore, it’s important to confirm a breakout using other trustworthy technical indicators or technical analysis tools.

Strategies to trade Bollinger Band Squeeze breakout

There are two quite popular strategies to trade Bollinger Band Squeeze breakout. 

1. Using Keltner Channels

As you know, Keltner Channels is also a technical indicator. Both Bollinger Bands and Keltner Channels are similar. However, both indicators measure volatility differently. The former measures volatility using a standard deviation of the price data. Whereas, the latter uses Average True Range. 

The rule is simple here when trading Bollinger BandS Squeeze breakout with Keltner Channels. You need to use Keltner Channels to confirm the breakout and determine entry/exit points after finding the Bollinger Bands contract. Here are the steps you can follow:

1. Firstly, you need to determine the security you want to trade and the timeframe of your choice.
2. Secondly, plot both indicators on the chart of the security you chose.
3. Thirdly, set the timeframe of 20 periods and a standard deviation of 2 on Bollinger Bands. Conversely, use a 20-period exponential moving average and a multiplier of 2 on Keltner Channels.
4. Fourthly, wait for the Bollinger Bands Squeeze and subsequently wait for the breakout.
5. Fifthly, seek confirmation of the breakout using Keltner Channels and enter a trade at a price level just above the outer channel. 
6. Finally, set your profit target and also set a stop-loss just below the lower Keltner Channel. 

2. Using Bollinger Bands Width indicator

Bollinger Bands Width indicator is based on Bollinger Bands. It measures the distance between the upper and lower Bollinger Bands. Traders use this indicator to determine periods of low volatility that often precede substantial price movements. You can use this Bollinger Bands Width indicator alongside Bollinger Bands for trading Bollinger Bands squeeze breakout. Here are the steps you need to follow.

1. Firstly, you need to determine the security you want to trade and the timeframe of your choice.
2. Secondly, plot both indicators on the chart of the security you chose.
3. Thirdly, set the timeframe of 20 periods and a standard deviation of 2 on Bollinger Bands. Conversely, use a 20-period exponential moving average and a multiplier of 2 on Keltner Channels.
4. Fourthly, wait for the Bollinger Bands Squeeze. Ideally, wait for a period for which the band width remains at the lowest levels. Here Bollinger Bands Width indicator helps you.
5. Fifthly, wait for the breakout and never forget to seek confirmation of the breakout using any other indicator. 
6. Finally, set your profit target and also set a stop-loss just below the lower band.

The wrap-up

Bollinger Band Squeeze refers to a situation where the market volatility becomes extremely low. It is important to understand that Bollinger Band Squeeze breakout play totally depends on the squeeze. This is because such a situation far more than often precedes an expanding volatility and price action.

When it comes to trading Bollinger Bands squeeze breakout, there are two popular strategies. However, it is important to note that there is no trading strategy that guarantees success. Therefore, always make informed trading decisions, use stop-losses, and take profit on time.