(EbookHay - Net) - Bollinger On Bollinger Band - John Bollinger

 

Foreword by Ron Insana Senior Anchor CNBC

 

  49.85 U.S.A.

The Th e p urp ose of this book is to hel p y you ou avoid many o the common traps investors get caught in, including the buy-low, sell-high trap, where the investor buys only to watch the stock continue downward or sells only to watch t h e stock continue upw upwar ard. d. -Fro -F rom m

th e Introduction Introducti on

In the 1970s, mar market ket ne newcomer wcomer John Bollin Bollinger ger couldn't find a system of investment analysis only to fit his belief th a t all market events exist only in relati relation on t o one another an and d tha t the re are no absolutes. absolut es. So he created his ow own. n. That Th at approach-Rational

Anal Analys ysis is-l -led ed

to th e

establishment of Bollinger Bands and ensured Bollinger's spot in investment analysis history. Now, in Bollinger on Bollinger Bands John Bollinger explains the market conditions that led t o his init initial ial discovery discovery,, and gives gives read readers ers t h e insid inside e story of of th e development development and refinerefinement of Bollinger Bands. He then goes on to present a relative decision framework built around R ational Analysis and B ollinger Band ands-an s-an

extraor extr aordina dinarily rily powerful powe rful combinacomb ina-

tion of technical and fundamental analysis that answers the question of whether prices ore too high or too low for virtually any security or market environment. By

understanding

how to

incorporate

Bollinger's techniques into their own investment strategy, investors will greatly increase their the ir ability t o ignore often-cost often-costly ly e emotion motionss and an d arrive at rational decisions supported by both the facts and the underlying market environment. Bollinger on Bollinger Ban Bands ds provides: The first authoritative examination of this revolutionary technical analysis tool Three simple systems for implementing Bollinger Bands Innovative methods for clarifying patterns-

and analyzing time frames and moving averages

 

  raise o r

ollingev oll ingev on

ollingev ollingev

and s

"I'm pro proud ud to say John Jo hn Bollin Bollinger ger has been a friend fri end of of mine min e for for 20 years . The Wall years. Wall Street Street community commu nity is full of very bright bri ght people, people , and John is one of of the brightest. brighte st. I have always alway s been im impress pressed ed with his intelligence,, his comm intelligence common on sense, sense, and a nd most of all his integrity. integr ity. The Bollinger Bands he developed have become an important tool for traders looking for a simple, effective way to identify market trends. This boo book k is a wonderful, wo nderful, easy-to-understand explanation explana tion of hi hiss fam famou ouss baby." baby." BILL G R ~ T H

CNBC

V

Anchor

"Get Get the word wo rd from the Master Bolli Bolling nger er,, who wh o skillfully writes write s an insightful weekly commentary, has turned his skills to the trading techniques you can use to successfully trade the indicator which bears his name. The three trading schemes cover everything but range trading, and the indicator discussion is heaven for tech junkies." SWEENEY Editor

JOHN

Technical nalys na lysis is of Stocks

Comm Co mm odities od ities

"Bollinger Bands have always been both popular and powerful. Now John explains the Bands in detail, from the Squeeze to the Wallk to the relationship Wa relations hip between betwe en the Bands Bands and other indicators." STEV ST EVE E CHELIS CHEL IS

Author of Techni Technical cal

nalysis na lysis from from

to Z

 

BOLLINGER ON BOLLINGER BOLLI NGER B ND NDS S

 

BOLLINGER ON BOLLIN BOL LINGER GER B NDS NDS John Jo hn Bol Bolllinger C CFA FA C M T

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ondon

 

Library of Co Library Congre ngress ss Cataloging-in-Publication ata Bollinger, John. Bollinger on Bollinger ba bands nds by John Jo hn Boilinger. .~cm

4

ISBN 0-07-137368-3 1 Tndingbands(Securiti~) 2. Invesmentanalysis. 3. Stockpriceforecarting. Securities-Frices-Charti diagrams, etc I Tltle.

C o py ig ht 20 2002 02 by The McGra McGraw-Hi w-Hill ll Companies, In Inc. c. U rights reserved. Printed in the United States of America. Except a s permitted permitte d u und nd er the t he United States States Co p pi g ht Act o off 1976 1976,, n o pa part rt of of this publication may be reproduced or dishibuted in any form or by any means, or stomd in a database or retrieval system, without the prior written permission of the publisher. 7 8 9

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ISBN 0-07-137368-3

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944 by Robert Frost. Copyright Copyrig ht 1916, 1916, 1969 by Hen ry

Holt a nd Compa Company, ny, L LLC LC.. Reprinted by permission o off Henry Holt and Company. LLC. This book

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Pr Prill illfed fed ntld botrnd botrnd by by R. R Doititellcy

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This publication is designed to provide accurate and authoritative information in regard to the subject matter covered. It is sold with the understanding that neither the author nor the publisher is engaged in professionall rendering legal, accounting, futures/securities trading, or oth er professiona service. If lega legall adv ice or othe r expert assistance is required, the seni ces of a competent professional person should be sought. -From of

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  ONTENTS List of Illustrations List of Tables x i Foreword xiii

vii

Preface xix Acknowledgments

xxiii

PART IN

THE BEG I NNING 1 2 4 5

1

Introduction The Raw M aterials 9 Time Frames 19 Continuous Advice 26 Be Your Own Master 3

PART 1

TH E BASICS 7

History 5 Construction

8 9

Bollinger Band Indicators Statistics 68

6

5 6

PART 11

BOLLINGER BANDS ON THEIR OWN 10 Pattern Recognition 77 11 Five Point Patterns 84 12 W Typ Typee Bottoms 96 1 3 M Type Top Topss 1 5 14 W alking th thee Bands 112

 

 5

6

P

The Squeeze 119 Method I Volatility Breakout

125

RTV

BOLLINGER BANDS WITH JNDICATORS 133 135 7 Bollinger Bands and Indicators 146 18 Volume Indicators 19 Me Method thod : Trend Following 155 2 Method Me thod : Reversals Reversa ls 16

75

P

RT

ADVANCED TOPICS 167 169 21 Normalizing Indicators 176 22 Day Trading P

RT

SUMMING UP 5 Basic Rules Wrapping It Up Endnotes 187 Glossary 198 Bibliography 218 Index 221

 

8 183 185

LIST O

ILLUSTR

TIONS

Rat Ration ional al Ana Analysi lysiss Bollinger Bands, Dee Deere re Co. Co.,, 20 200 0 days 2.1 Line chart, Freddie Mac Mac,, 10 100 0 da days ys 2.2 Bar cha chart, rt, Fre Freddi ddie e Mac Mac,, 1 100 00 da days ys 2.3 Cand Candlesti lestick ck cha chart, rt, Fred Freddie die Mac Mac,, 100 10 0 days 2.4 Bollinger Bars, Freddie Mac, 90 days

6.9 Dow Jones Industrial Average with 21-day moving average and 4 percent band bandss 6.10 Bomar Bands, Instinet Research and Analytics 6.11 6.11 Impli Implied ed risk indicator, Optio Options ns Strategy Spectrum 6.12 6.12 Boll Bollinge ingerr Ban Bands, ds, Dee Deere re Co Co., ., 200 days

2.5 Mac, Point-and-figure chart, Freddie 120 days 2.6 Ba Barr chart, linea linearr scale, Fre Freddi ddie e Mac, 200 days 2.7 2.7 Ba Barr chart, log scali scaling, ng, Fre Freddi ddie e Mac, 200 days 2.8 Ba Barr cha chart, rt, volume volume,, Fre Freddi ddie e Mac, 100 da days ys 2.9 Ba Barr cha chart, rt, vol volum ume e an and d avera average, ge, Freddie Fred die Ma Mac, c, 10 100 0 da days ys 2.10 Ba Barr char chart, t, n norma ormalized lized volum volume, e, Freddie Mac, 100 days 3. 3.1 1 Moving average, correct 3.2 Moving average, too long 3.3 Moving average, too short 6.1 Twin-Line cha chart rt 6.2 Keltne Keltnerr Buy an and d Sell Lines 6.3 Keltne Keltnerr Channe Channel, l, IBM, 1 150 50 da days ys 6.4 Donch Donchian ian Cha Channe nnel, l, IBM, 1 150 50 da days ys 6.5 Valua Valuation tion envelope, Electronic Data Systems 6.6 Valuation envelopes, ha hand nd dr draw awn n 6.7 Cycle Cycless used for draw drawing ing enve envelopes lopes 6.8 Stock with percenta percentage ge envelopes, Deere Dee re Co Co., ., 200 da days ys

7.1

P.1 E2

7.2

7.3 7.3

7.4

7.5

7.6

8.1 8.2

Bollinger Bands Bands,, 20-day simple ple moving movin g average, Deere sim Co Co., ., 150 day dayss Bollinger Bands, 20-day expone exponenntial moving average, aver age, Deere Co., 150 15 0 day dayss BoU BoUing inger er Ban Bands, ds, 20-d 20-day ay fron fronttweighted moving average, Deere Co.,, 15 Co. 150 0 da days ys Boll Bollinge ingerr Bands, 50-day movin moving g average and 20-day standard deviation, devia tion, Deere Co Co., ., 15 150 0 days Mul Multip tiple le Bollinger Bands, equ equal al periods, multiple widths, Deere Co., 150 da days ys Mul Multip tiple le Bollinger Band Bands, s, different periods, normal widths, Deere Co Co., ., 150 da days ys Bollinger Bands and b, Nokia, 250 days Bollinger Bands, b, an and d 21-day Intraday Intensity, nonconfirmed low, Guilford Pharmaceuticals, 100 10 0 da days ys

 

v

8.3 Bollinger Bollinger Bands and b, W bottom, Sears, 100 day dayss 8. 8.4 4 Bollinger Bollinger Bands and an d Bandwidth Bandwidth,, The Squeeze, Clorox, 100 days 8. 8.5 5 Bollinger Bands and Bandwid Ban dwidth, th, beginning of a trend, Standard

LISTOF ILLUSTRATIONS 12.1 The ideal W drawing 12.2 W higher, New York Times A, 200 days 12.3 W equa equal, l, JCPenney, 200 d day ayss 12.4 12. 4 W lower, Stanvood Stan vood Hotels, 200 days

Pacific, 200 days 8.6 Bol Bolli linge ngerr Bands an and d Bandwidth Bandwidth,, end of a trend, Lennar, 200 days

12.5 W bottom bottom,, Bollin Bollinger ger Bands, Band s, AT AT& &T Wireless, 140 days 12.6 W bottom, lower Bollinger Bands

8.7 8.8 9.1 9.2 9.3

broken 150 dayson right side, Ashland, 12.7 W bottom, neither low breaks the bands, The Limited, 100 days 12.8 W bottom, buy the e expansion xpansion day, day, Chevron, 150 days 12.9 12 .9 Head an and d shoulders, W 8 and W10, PNC, 300 days 13.1 Idealized head-and-shoulders top 13.2 13 .2 Actual head-and-shoulde head-a nd-shoulders rs top, Vishay, 250 days 13.3 3.3 Hea Head-an d-andsho dshoulde ulders rs top with

Parallels patter pattern n Bubbl Bubble e patt pattern ern The normal distribution Kurtosis Bond market volatility cycle, 30-year T-bond yield, two years 10.1 Three pushes to a high, Pharma 10.1 Pharma-cia,, 150 days cia day s 10.2 W bott bottom, om, Bear Bear Sterns, 100 day dayss 10.3 M with within in a W, Harl Harley ey Dav Davidso idson, n, 100 day dayss 10.4 10. 4 W bottom, Boll Bollinger inger Bands, an d volume confirmation, Art Technology Group, 10 100 0 days W bottom, BoUinger Bands, volume indicator, and momentum indicator, Art Technology Group, 100 days NASDAQ Composite Comp osite,, thr three ee years, no filter NASDAQ NASDAQ Composi Com posite, te, three thre e years, 5 percent filter NAS NASDAQ DAQ Composi Com posite, te, three thre e years, 10 percent filter

Bollinger Bands, S1.300 days 13.4 Three pushes to a high, Juniper, 200 days 13.5 Throwback entry into a sell, Integrated Devi Device, ce, 150 day dayss 14.1 14 .1 S&P 500 wi with th Bollinger Bands, fall fa ll 1998/spring 1999 14.2 Walk up the band followed by an M top, Vishay, 350 days 14.3 Walk up the band with Intraday Intensity, open, Texas Instruments, 350 days

NASDAQ Comp Composite osite,, three thr ee years, 20 percent filter 11.5 11 .5 NASDAQ Comp Composite osite,, three thr ee years, 30 percent filter 11.6 11 .6 NASDAQ NASDAQ Compos Com posite, ite, three thre e years, 40 percent filter 11. 1.7 7 Wheelan's poin point-an t-and-fig d-figure ure cha chart rt 11.8 Modem Mod em point-and-f point-and-figure igure chart, IBM, one year 11. 1.9 9 Cunr Cu nre e fit for Cohen's pointpoint-and and-figure box-size rules 11.1 11 .10 0 Arthur Arth ur Merri Merrill's ll's M pattern patt ernss

14.4 Walk up the band with Inhaday Intensity, closed, Texas Instruments, 350 350 day dayss 14.5 The average as support, Archer Daniels, 100 days 14.6 Basic Elliott wave pattern 15.1 Bollinger Bands and Bandwidth, IBM, 250 days 15.2 T-bond Bandwidth, 250 days 15.3 The Squeeze and a breakout, PPL, 150 days 15.4 The Squeeze, a head fake, and a

10.5

11.1 11 .1 11.2 11. 2 11.3 11 .3 11.4 11 .4

11.11 Arthur Memll's W patterns

breakout, Adobe, 100 days

 

15.5 n ~ eevvrsal of an expansion, the end of of a tre trend, nd, Amer American ican

18.2 Accumulation Distribution, Distribution, Har Harttford for d Insurance, 20 200 da days ys

Financial Group, 10 100 0 days 16.1 He Head ad fake, EOG Resour Resources, ces, 250 days 16.2 16. 2 Meth Method od I example, Avalo AvalonBay nBay Communities, Communi ties, 2 20 00 da days ys 16.3 Method I example, Ocean Energy, 100 days 16.4 16. 4 Meth Method od I example, No Noble ble Drilling, 300 days 16.5 16 .5 Meth Method od I example, Pinn Pinnacle acle Holdings, 10 100 0 days 16.6 16 .6 Meth Method od I exampl example, e, PP PPL L Co Corp., rp., 120 days 17.1 BB, MFI, and normalized volume, Healthcare Realty, 150 days 17.2 17 .2 B BB B, AD ,an and d norm normalize alized d volu volume, me, Pfizer, 120 days 17.3 BB. Intraday Intensity , Ashland Oil, 150 days 17.4 17 .4 BB, M E , an and d AD , Mar Marsh sh McLennan, 150 days 17.5 17 .5 BB, II , an and d norm normaliz alized ed volu volume, me, walk up the band, Sabre Holdings, 150 days 17.6 W2 W2,, rel relat ativ ive e W4 W4,, 11 con confir firms, ms, Dow Chemical, 150 days 17.7 An Analy alytic tical al Templ Template ate I, CV CVS, S, 150 days 17.8 An Anal alyt ytic ical al Te Temp mpla late te 11, AT&T, 150 days 18.1 Intraday Intensity, Hartford Insurance, 200 days

18.3 18 .3 11 an and d AD , Hart Hartford ford Insurance, 200 days 18.4 Money Flow Index, Hart Hartford ford Insurance, 200 days 18.5 Volume-Weighted MACD MACD,, Har Harttford Inswance, 200 days 19.1 Method I1 buy example, AG Edwards, 100 days 19.2 Meth Method od II sell examp e xample, le, Micron, 150 days 19.3 Method II as an alert, P PerkinerkinElmer, 200 days 20.1 DJIA with 4 percent bands and advance-decline advance-decli ne oscillator 20.2 20. 2 DJ DJIA IA with Bollinger Bands and A-D MACD 20.3 W2 W2 (W4) wi with th Ac Accumu cumulati lation on Distributio trib ution. n. Dow Chemical. 15 150 0 dav davss 20.4 MI6 (M12) with ~ccumulation Distribution, Distributio n, Lyondell, 15 150 0 days 21.1 21 .1 Distributio Distribution n chart, 10-day stochastic, chasti c, IIB BM, tw two o year yearss 21.2 21 .2 M E wit with h Bo BoUi Uing nger er Bands, Dupont, 150 days 21.3 b(MFI),Duponf 15 b(MFI),Duponf 150 0 days 21.4 21 .4 RS RSII wi with th Bollinge Bollingerr Ban Bands, ds, Dupont, 150 days 21.5 21. 5 b(RSI) b(RSI),,Du Dupo pont nt,, 150 day dayss 22.1 22 .1 Short-term b bar ar chart, bars too short, Guilford, 10-minute ba bars rs 22.2 Shor Short-te t-term rm ba barr chart, bars correct, Microsoft, Micros oft, 10-mi 10-minute nute bars

 

LIST O P.l 2. 2.1 1 2.2 3. 3.1 1 3.2 6.1 6.2 6.3 7.1 7.2

T BLES

Stan dard Boll Standard Bollinge ingerr Ban Band d Formulas Typ Typical ical Pric Price e Rec Record ord fo forr IBM Addit Additiona ionall Raw Materials for the

11 1

Technician Possib Possible le Time Frame Combinations Traditional Parameters for the Width Wid th o off Bollinger Bands Kellne Kellnerr Band Formu Formulas las Percentage Band Formulas for 5 Percent Bands Bomar Band Formu Formulas las The Population Formula for Standard Deviation Recom Recommende mended d Width Param Parameters eters

fied Bollinger Boxes 11.3 Merrill's Categorization of M and W Patterns 15.1 Bandwidth Formula 17.1 Indicator Category Examples 18.1 18 .1 Volu Volume me Indicators an and d Their Authors 18.2 18 .2 Categ Categories ories of Volume Indica Indicators tors 18.3 Volume Indicator Formulas 18.4 18 .4 Formu Formula la for Norma Normalizing lizing Vol Volume ume Oscillators 19.1 Method l Variations

for Bollinger Bands 8.1 b Formu Formula la 8.2 Band Bandwidth width Formula

Charcraft Recommended Box Sizes for Stock Stockss 11.2 1.2 Sam Sampl ple e B Bo ox S Size izess Using Simpli-

21.1 Trial Bollinger Band Values for Indicators 21.2 N Normal ormalized ized Indic Indicator ator Formu Formula la

 

FOREWOR In Jun Ju n e of 1984 1984 I firs firstt wal walked ked thro through ugh the d door oor of of 2525 2525 Ocean Par Park k Boulevard in Santa Monica, California. It was wa s the ho home me of of the Financial News Network, Networ k, tthe he nation s first television network dedicated dedicat ed so solely lely to the coverage of eco econom nomic, ic, mar market, ket, a and nd business busines s news. FNN s headquarte headq uarters rs was an ungo ungodly dly place place,, a ramshackle box bo x o off a two-story building building.. It was singula singularly rly unimpres unimpressive. sive. Square, somewhat dilapidated, and cramped, it housed scores of employees who were charged with puttin p utting g on 12 hours of business news every day, day, for for little money and for virtually no viewers. Such was the environment I encountered exact exactly ly 17 years ago. I took an entry-level entry-le vel jo job at FNN because neither Mr. Spielberg nor Mr. Lucas recognized my budding talent as a filmmaker. Not that they knew I existe existed, d, but while I wa wass convinced o off my m y potentia pote ntiall as a world-class auteur, no one else seemed to notice my graduation gradua tion from film school. school. Only an old friend from high scho school ol offered off ered me gainful employment, and an d it was in in a an n area of of the media with which I was thoroughly unfamiliar. For me FNN was a temporary resting place, a ground-floor opportunity that would pay the bill billss while I peddl peddled ed my scripts fo forr mainstream T V sl~ows and feature films that would one day soon make me rich and famous. So I began my m y jo job at FNN with some reservation. While it

represented a learning experience that could help me hone my media skius, the content was frighteningly dull or at least I thought at the time. There were many numbers (which I did not have the head he ad for), a lot of of jargo jargon, n, a and nd there were m many any items I ha had d simply never heard of wool futures and palm pal m oil markets immediately leap to mind. But the people in the newsroom of

x

 

x v

FOREWOR

FNN were interested inte rested in i n all of it, whic which h intrigued intrigue d me grea greatly tly.. What was it about this seemingly meaningless stuff that had an entire room full of of people so fully engaged? Why were they looking charts What, were they talking about day daat y in and an d and day graphs? out? I began to on getearth, curious. Before I expand on my growing curiosity, let me describe the working environment at Financial News Network. There were three main m ain room roomss on the first floor of the boxlike building. build ing. The Th e newsroom, such as it was, was a 30 by 50 square with a ring of desks around the inside, outfitted with the requisite IBM Selectr Sele ctrics ics,, boxes of of script-sets script- sets for typing typ ing news ne ws stories storie s and the stereotypical overflowing wastepaper baskets underneath. The writers and producers were generally quite young, in their 20s and early 30s. The senior producers were mostly older men, who had ha d spent spen t many years in the news business a collecti collection on of hard hard-boiled boil ed types typ es from print prin t and a nd broadcast journalists journalists who tried, many times in vain, to give shape to this emerging brand of news reporting that had never been attempted before. Two rooms attached to the main newsroom. One was for the associ ass ociat ate e pr producers oducers and segment producers who wh o put p ut together together the taped pieces that filled filled out ou t the day da y s newscasts. St Still ill another room house ho used d some som e of FNN s on-air spec specialis ialists, ts, of w who hom m John Joh n Bollinge Bollingerr was one. John, along with the late Ed Hart, provided much of FNN s commen com mentary tary about abo ut the day s market mar ket event ev ents. s. Ed Hart Ha rt was a grizzled grizzle d veteran of of busine b usiness ss news. While working work ing for FNN, Ed also delivered daily business reports for KFWB a Los Angelesarea all-news all-news radio station that battled to co compete mpete with its bigger local rival, KNX. Ed was a curmudgeon s curmudgeon. A salty character with a taste for dirty di rty jok jokes es,, Ed was, an and d shall s hall ever remain, the best business journalist I have worked with. He had an encyclopedic

know ledge of knowledge of economic and an d market history. He ha had d a frighte frightening ning photographic memory and a rapier wit. He suffered no fools and never felt shy about idenhfylng your intellectual shortcomings. But, he had a great heart and loved nothing more than business news, except sailing and dancing. On one particularly busy news day, our then-managing editor walked into the newsroom while the entire staff was on deadline and asked for help with a word game with which he was struggling. Everyon Everyone e else was struggling with getting a show on

 

th e air air, b u t our fearl fearless ess leader fail failed ed to notice, preoccupi preoccupied ed w it h the we ighty matter matter o f completi completing ng the j umble umble or som e such thing. H e asked ou t loud loud if any one k n e w the defini definiti tion on o f jej ejun une. e. O nl y Ed Hart Hart bother bothered ed to repl reply. y. It's It's the m o n th be for e Ju-Jul Ju-July, y, Ed snapped, and walked away. Ed had more important things on his mind m os t oft en , and th ey frequentl frequentlyy cent center ered ed o n bei b eing ng accura acc urate te,, timely, and and ins igh tful . H e w a s al alll o f th e above. He w as early with his market calls, always right, and his information was delivered in a highbrow manner that will likely never be duplicated again. FN N's other specialist specialist sat virtua vir tua lly isolated in a r oo o o m o f f o th th e si side de o f the newsroom. That w as Jo hn Bo Bolll i nger nger.. H e was FNN's resident m ark et technician. technician. It It w a s Joh n's job to pour ov er charts and graphs, looking for repetitive patterns in market action and explainn to FNN's explai FNN's audience audience th that at b y identifying past patterns one coul co uldd m ak e intel intelli ligent gent bets o n the future o f the m arket. Stoc Stockk quote m achines, som e primitive primitive com pute rs, and reams o f pa pape perr surrounded Joh n. N ot to me ntion, al alll kin ds o f books o n tech techni nica call analysis, analys is, th e titl titles es o f w hic h did not recognize recognize at the time . Bollinger Boll inger,, as w e called called him w as a cantankerous cantankerous sor sortt o f fel fellow, low, opini opi nionat onated ed and an d ou tspo ken wh e n it ccame ame to the markets. market s. He had q u it i t e a n in i n te t e re r e st st i n g b a c k g r o u n d , w h i c h d r e w m e t o h i m immediately. He spent years as a cameraman, including a stint at the CBS newsmagazine W eanwinterest er e rerest e s om om aatt simpatico, since sinc e w e shared shared a lo6 0ve Minutes. o f film and int ine w great grheat st story oryte tell llin ing. g. But w as a bit stumpe d w h y someone w h o had ha d had a great job in mainstream V wo uld give it u p to star staree at squiggl squiggles es o n a page page that presumably presumably m ea nt some thing to someo ne. didn't

quite get it, b u t as sai aidd befo re, beg an to get curious. W h e n first first arriv arrived ed at FNN understood nothing about econom ics, m arkets, or busine ss. But as li lingere ngeredd there for a nu m ber o f m onth s, sti sti l l waiti waiting ng for fo r m y big bo x of office break, wa s increasi incr easingly ngly dr aw n t o the pe peopl oplee and the content content that def defin ined ed FNN. Bill Griffethan Griffethandd Sue He Herr era era (t he n M cM ahon ) were in the proc pr oces esss o f inven ting business television, as w e k n o w it today. Ed Ha rt, Jo h n Bollin Bollinger, ger, and a senior producer, one Doug Crichton, would hold fascinating conversations about current events, busine ss, ma rkets, and econom ics that did no t pret pretend end to understand. Bu Butt the y hooke hookedd m e o n the content content.. became be came a busine ss n e w s junk junkiie and it's a n add iction that lasts lasts to this day. day.

 

John Bolling Bollinger er is one of the peop people le wh who o reall really y hooked me a att FNN. His enthusiasm for the subject matter was contagious. His passion for learning more and more about markets and their history was inspiring. And his attention to detail raised the performance bar for the rest of of us who w ho were constantly struggling to keep up with his insatiable appetite for information. As John grew in his knowledge knowl edge o off the mar markets, kets, his insights insigh ts became increasingly useful to those aro around und him. We We were all impressed by the speed with which he assimilated market messages and explained their their meaning to o our ur audience. It became became increasingly clear to to those o off us wh who o worked with wit h John that he would one day make important contributions to the field of of technical techni cal analysis. analysis . What Wh at once onc e wa wass real really ly a W Wal alll Street backwater had ha d grown into int o a very respectable form o off market analysis. anal ysis. Great technicians like Joe Granville, Robert Farrell Farrell,, Edso Edson n Gould,, Robert Gould Robert Prechter, and, of cour course, se, Charles Char les Dow invented inve nted forms of of marke markett ana analysis lysis that surviv sur vive e to this day. Indeed, Indee d, a all ll o off Wall Street s major brokerage houses, money management firms, and an d big hedge he dge fund f undss employ technical analysts. analysts. Al Alll investors look look constantl const antly y for an edge. edge . Techn Technic ical al analysis analy sis is on one e o off the tools th that at can provide that edge which means the difference between profit and loss. Asr of f John s ed colleagues belie ved it was onlysts a Ifsaid, ma tter matte o time many beforeoJohn join joined the ran ranks ksbelieved of of im impo porta rtant nt analy analysts who would change the way technic technical al analys analysis is was conducted and

considered. And, indeed, he has. ollinger on ollinger ollinger ands is a must read for all student stud entss o off the markets. It It explains and an d expounds expound s on an important i mportant contribut contribution ion tto o technical analysis that John made while we were working together a t the Financial News Network. Network. When John first invented Bol Bollin linger ger Bands, didn t unde un derst rstan and d the sigruficance of his work. A Ass I stated, it took me many years to understand fully the subject I was coveri cov ering, ng, and Jolm Jolm s work, at the time, time, was as arcane as any I had encountered. (Gladly that tha t is no longer so, lest some o off you worry that I am still unfamiliar with w ith technical technical analys analysis.) is.) But like many great grea t discoveries, Bol Bolling linger er Bands are elegan e legantt in their simplicity. simplicity. They define the parameters parame ters that ac accompany company market gyrations. They set the boundaries for expectations, and they allow traders to understand the degree and speed with which markets can move. move. Bollin Bollinger ger Bands bend, yet they a are re made mad e to be

 

broken. It is when they are broken that they contain some of the most important information an investor could want. They are mathematical in their construction but in pictures they paint pain t a thousand words that are invaluable for investors. In short Bol Bolli linge ngerr Bands are ar e a technical tool which all invest inv estors ors traders and money money managers should understand and utilize. And they are only one of several contributions to market analysis that their namesake has made and for which he will be remembered well. INSANA CNBC June 2001

RO

 

PREF

CE

My first encounter with the stock market came as a child in the form of of a bequest beque st of of a few shares sha res of of Fruh F ruhauf auf,, a compan com pany y that th at subsequently took a long time to go bankrupt. My second

encounter came as a young man, in the late 1960s, while working for the Museum of of the Media, an institution owned by three brothers whose who se father was a highly successful underw und erwrite riterr of hightech tec h stocks stocks at the time. time. High-tech stocks stocks were all the rage, and my supervisor fell under the influence. Without really understanding the details, de tails, I instinctively knew something wasn't quite quit e right. Next Next came the mid mid-1 -197 970s 0s and a n assessment assessm ent of the damage dam age done do ne to my mother by holding mutual funds fun ds through a bear market. My final final formative acquaintance came in the late 1970 1970ss when whe n oil was on its inevitabl inev itable e way to $5 $50 or $1 $100 barrel and an d oil stocks were all the rage, especially especially small companies compani es involved in dee deep p drilling for gas in places like Oklahoma's Anadarko basin. Needless to say, oil went down do wn instead of of up, and an d oil stocks stocks in general were crushed, with many m any of of the marginal stocks disappe disa ppearin aring g altogether altogether.. There had to be a better way, and I looked for that better way for a long time without withou t finding it. thecombina endbination I had hation d to create it. It It is R called Rational Analysis. is Inthe t he com of technical analysis and fundamental analysis in a relative framework framework (Figur (Figure e P.1). This book focuses on the primary R tool, Bollinger Bands, which provide the relative framework; a subsequent-largervolume will focus on Rational Analysis itself. To define terms: Technical Analysis: The study stu dy of of market-related data d ata as an an aid to investment decision making

 

  igureP 1

Rational

nalysis

Fu ndam Fund amen ental tal Analysis: The study stu dy of company-related data as an aid to investment decision making Ratio Ra tional nal Analysis: Analy sis: The T he juncture junctu re of of the sets o off technical and an d fundamental analysis1

r

Techni Tec hnical cal analysts bel believe ieve that all useful information is already a lready impounded in the price structure. Therefore the best source of information is the price structure itself. Fundamental anaIysts estimate the wo worth rth of of a share based on company and a nd economic economic factors and an d compare ttheir heir estimate with the market price. If there is a sufficient discrepancy, they act. n essence, technicians believe that the market is right, while fundamental analysts believe their analysis is right. It is important to keep in mind that the stock is not the company and the company is not the stock. Though there is a reIationship between a company and its stock, the connective

i

tissue between the two is primarily p rimarily psychological psychological.. Traditionally it is thought that a company s fundame fund amentals ntals ultimately detennin dete nnine e the stock price. Here are a couple cou ple of of counterexam counte rexamples: ples: falling stock price can hurt a company. If key employees with stock options see the price plummet, plumm et, they may m ay go elsewhere in search o off better compensation. Or even more damning, a falling stock stock price price may prevent a company from getting the financing it needs to stay alive. No matter what the case, those investors using Rational Analys Ana lysis is have have the upper up per hand, as they understand both the stock and the company.

 

At the end en d of of the da day y it is the combin co mbination ation of technical and fundamental analysis that best paves the road to investment success. Employing such a combination creates an environment within which the investor or trader can make rational decisi decisions, ons, an environment environme nt in which emotions can be kept und under er control control.. Emotions Emotio ns are the investor s worst enemy. Did you ever sell into a panic, panic, buy at the top, wo n y about being caught in a bea bearr market, or fear missing the next big bull run Rational Analysis can help

you avoid those traps by giving you a reasonable basis to make fully informed decisions. Then, instead of be being ing a member mem ber o off the crowd, swayed by greed and fear and making the same mistakes time and again, you can hold your head up high as an independent indepen dent investor acting in your own best interest. interest. Fina Fi nall lly, y, to sta s tart rt of off on tthe he right r ight foot, a defin definition ition:: Bolli Bollinger nger Bands are bands drawn in and around the price structure on a chart (see Figure P.2). Their purpose is to provide relative definitions of high an and d low; prices prices near the uppe up perr band ba nd ar are e high,

Figure P 2

Bollinger Bands, Deere

Co.,

200

days

 

  ableP l

Standard Bollinger Band Formulas

Upper ba Upper band= nd=Mi Middl ddle e band band 2 standard deviations deviations Middle band 20-period 20-period moving average Lower Lo wer band Middle band 2 standard deviat deviations ions

I

/

prices near the t he lower band are lo low. w. The bas base e of the bands ban ds is a moving average that is descriptive of of the intermediate-term interm ediate-term trend (see Table P.1 .Thi Thiss average average is known as the middle ba nd and its default length is 20 periods. The widt width h of the bands is i s determined by a measure m easure o off volatility called called standa stan dard rd deviation. The data for the volatility calculation is the same data that was used for the moving average. The upper and lower bands are drawn at a default distance of of two sta standa ndard rd deviations de viations from the average. Now that tha t we know what wh at Boll Bollinge ingerr Bands Band s are, let s learn how to use them. JOHN

 

OLLINGER

  CKNOWLEDGMENTS We do nothing alone. First my pare parent ntss-my my father wh who o taugh tau ghtt me math ma th was fun and how to fly and my mothe motherr who had the faith to place place her future fu ture in my hands. My wife Dori Doritt with without out whom all of of tthis his simpl sim ply y would woul d not have been possib possible le and my daughter daughte r Zoe Zoe upon upo n whom the sun su n does not set. Jon Jo n Ratner a broker with wit h AG Beck Becker er when wh en met him now a valued friend made mad e many man y things possible possible most importantly via via an introduction to Charles Speth and Holly Hendricks at whose irm I learned about trading. trading . Lat Later er he convinced convinced his office office manager to provide me with a quote machine and a desk from which to conduct my seminal operations. operations. Earl Brian Brian the chair ch airman man o off the th e board boa rd of the Financial News New s Network who believ believed ed both in me and an d in computerized technic technical al analysis. Marc Chaikin Steve Leuthold Leut hold Don Worden an and d Jim Yate ates who taught me concepts and techniques at a time when was hungry for them them and Arthur Merrill Merrill who set an impossibly impossibly high standard. The data used in the charts and testing process for this book was provide prov ided d by Bridg Bridge e http:Nw http :Nwww. ww.brid brid~e.c ~e.com om via via Bridg BridgeeStation. The testing was largely done in Microsoft Excel. The charts in this book book were mostly mostly created with wit h gnuplot an opensource scientific scientific plotting program. wrote a gnuplot preprocessor in Microsoft Visual BASIC that retrieved the Bridge data via DDE prepared the gnuplot gnuplo t scripts and an d wrote wrot e data da ta files files for the charts.

 

xx v

CKNOWLEDGMENTS

Open-source software is the cutting edge Open-source ed ge of of the computer world and I am deeply indebted to the many fine programmers who so selflessly contribute their fine work to operating systems such as a s Linux Linux and programs such as a s gnuplot. T To o find ou outt more about abo ut gnuplo gnuplott you may may visi visitt http ht tp:// :// ww w. w.~u ~upl plot ot.o .org rg.. star starti ting ng point to learn more about open-source software is The Open source Initiative h t t ~ : / / w ~ . o p e n s o u r c e . o r ~r. t y the Free Software Foundation http://www.fsf.org originators of the free-software movement.

 

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I N THE

EGINNING

Part I introduces the basic building blocks for technical analysis using Bo B o l h g e r Band Bandss discusses the importance of defining and using three different different time frames frames in your operations and presents the pldosop pldo sophica hicall underp und erpinnin innings gs of our work and appr a pproach oach to the markets.

 

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Over 80 years ago ago the th e physicist Albert Einstein introduced his h is concept of relativity. relativity. At its core core relativity relat ivity suggested sugges ted that th at all things existed existe d only in relation to one another. anothe r. The inevitable inevi table conclusion conclusion is thatt nothing sta tha stand ndss al alon onee-th ther ere e are no absolutes. For For there to be black there must be white; fast exists only in relation to slow; a lugh lug h cannot canno t exist without a low for reference; reference; etc. etc. Einstein applied his theories to physics and in doing so lost a wider audience to whom those theories might mig ht have appealed. However others such as the philosopher philosopher Bertrand Bertrand Russell Russell were at work extending

similar ideas beyond physics. In a serialized seriali zed form of his hi s book book [The A B C of Relativityl that appeared in The Nation dllring 1925 Rlrssell expressed the belief that oncee people onc people had had become used to the th e idea idea of rrel elat ativ ivit ityy it zzuo uotr trld ld chang cha ngee the wa y they the y ttlzo lzougl ugl~t ~t pe peop ople le wozr wozrld ld zuorlc wi w i t h greater abstraction abstra ction and

 

would replace old absolute laws with relative concepts. This has ce certa rtainl inlyy hhappened appened i n the ruo ruorl rldd of of science but the absorptio abso rptionn of relativity into popular culture has done little to cltailge the w y most peop pe oplle thin th in k, sim ply becat becatis isee ve nj few few have got us used ed to relativity or rinderstnnd it in the least.

At about the same time Einstein Einstein was starting star ting his work, Oliver Oliver Wendell Holmes, Jr., a U.S. Supreme Court justice, was engaged i n push p ushing ing our nation s system of of justic justice e in the direc direction tion o off relativity. He suggested that the courts could not determine absolute truth. trut h. They could only judge the relative merits of of the competing claims before them, and they could not do so in an absolutist framework, but only in a framework relevant to socie society ty.. Early in his career Holmes stated: Th e law embodies the story of a nation s developmen The develo pmentt throtiglz throtiglz many centuries, and it canlzot be denlt with as if it coiltained only the axiom axi omss and corollnries of a book book of of m athem ath ematic atics. s. I n order to kno know w what w hat it is, is , rue mu m u s t kno know ww what hat it has been, and zuhat zuhat i t tends tend s to become.2 become.2

The work of of Einstein and an d Holmes Holme s didn t stand sta nd alone. Their focus was an a n indication indicatio n of of an emerging em erging trend t rend within society society.. Sinc Since e the world wo rld was starting sta rting to become more complex complex as the nineteenth century drew to a close, it was widely realized that the absolute truthss tha truth thatt had governed the affairs affairs of people would no longer serve, that a relative framework would be needed if progress were serve, to continu continue--an e--and d so it is with the markets. Such ideas are humble in their essence. They recognize our limits. They reflect Eastern rather than Western philosophy. The goall of the per goa perfect fect approa app roach ch to investin inve sting g is just just that, tha t, a goal. We We may approach it, but it always will elu elude de our grasp. Indeed, there perfectt system. We can only do d o as well as we can within our ou r is no perfec

limitat ions, a t the urging of our limitations, ou r potential. poten tial. Bernard Mandelbrot discovered nonlinear behavior in cotton prices in his early research into chaos. Others have followed who suggested that financial systems systems are in fact extremely comp complex lex,, so so complex that they exhibit hard-to-predict behavior similar to the best-known complex system, the weather. As systems become more complex, traditional linear analytical tools fail, and it becomes ever harder to understand them. The only tools that serve to help understand complex systems are relative tools.

 

It is no nott the purpos pur pose e of of this book to plumb plu mb the dept de pths hs of of the arguments, pro pr o or con, con, regarding these matters. m atters. Rather, Rather, we accept the weight of of the evidence tha thatt prices are not distributed normally and markets are not the simple systems that most people think they are. Our base assumption is that the markets are systems of increasing complexity that are ever harder to master. The old saw suggests that in order to make money in the market, you must mu st bu buy y low and an d sell high high-o -orr vice versa. versa . As the markets have become more volatile and the patterns more complex, this has become increasingly harder to do. There is a fable from the trading pits in Chicago where the most active of the world w orld s futures futures contracts contracts are traded. It suggests there is a god who rules the pits pits.. This god god has but bu t two rules: One, One, you may bu y the bot buy bottom tom ti tick ck-o -onc nce e in your yo ur life. life. Tw Two, o, you may sell the top to p tick tick-a -aga gain in,, once in your you r life. Of course, by implica imp licatio tion n you are free to do d o the opposite as a s o£ o£ten as you would wo uld like. like. The purpos pur pose e of of this book is to help you avoid a void many of of the common traps trap s investors get caught in, including includin g the buy-l buy-low ow trap tr ap where the investor buys only to watch the stock continue downward, or the sell-high trap, where w here the investor sells only to watch the stock continue upward. Here, the traditional, emotional approach to the markets is replaced with a relative framework within which prices can be evaluated in a rigorous manner mann er leading lea ding to a series serie s of rational ration al inves investment tment decisions dec isions without reference to absolute truths. We may buy low, or sell lugh, but i we do so, we w ll do so only in a relative sense. References to absolutes will be minimized. The definition of hi h wll be set as the upper trading band. The definition of ow

I

will be set as the lower trading band. In addition, there w ll be a number of suggestions to help you tune this framework framew ork to your individual preferences and adjust it to reflect your personal risk-reward criteria. Part I starts with this chapter, the introduction. Then, in Chapter 2, you ll read about the raw ra w materials available to the analyst. Next in Chapter 3 you ll learn how h ow to select select the proper time frames for your analysis and how to choose the correct length and width for Bollinger Bands. In a more philosophical vein, Chapter 4 looks at the contrasting contr asting approac approaches hes of of continu c ontinuous ous advice versus the process of locating setups that offer superior risk-reward risk-reward opportunities. Part P art I concludes with a discourse,

 

 

PART I:

IN THE

BEGINNING

in Chapter 5, on how to deploy successfully the ide ideas as you will read about in i n this bo book. ok. Part 11 covers the technical deta details ils of of Bollinge Bollingerr Bands. It begins with Chapter 6 on the history of of trading tradi ng band bandss (and in Chapter Cha pter 20 20 in Part IV we reprise the oldest trading system known to us bas based ed on tradi trading ng b band ands). s). Ch Chapte apterr 7 7,, w which hich describes the construction of of Bollinge Boll ingerr Bands, follows next. Ch Chap apter ter 8 is devoted to a discussion discussion of the indi indicato cators rs that th at are deri derived ved from Bolli Bollinge ngerr Bands: Bands: %b, a method meth od o off mathematically determin dete rmining ing whether whe ther we are high or low,, an low and d Band Ba ndwi widt dth, h, a meas measure ure o off vola volatility. tility. We close Part Pa rt I with Chapter 9, which discus d iscusses ses volat volatility ility c cyc ycle les, s, su surve rveys ys some o off the academic ideas that su supp pport ort the concept o off Bolli Bollinge ngerr Bands, Bands, and reviews the relevant statistical issues. If y you ou are a re no nott int intere ereste sted d in knowing the details behind the tools, you may want to skip Part I and go straight to Part 111, where wh ere tthe he discuss dis cussion ion o off how to use Bolling Bollinger er Bands begins. While Parts 111 and IV build on tl~eoundation tl~eoundation laid out in the first two parts, you can read them independently. Part explains expla ins the basic us use e of Boll Bollinge ingerr Bands. Band s. It It star s tarts ts with wi th Chapters 10 an and d on pattern recogni recognition tion and introduces Arthur Merri Mer rill ll's 's M and a nd W patte pattern rn categor categorizatio ization. n. Then Chapters 12 and 13 tackle the use us e of of Boll Bollinge ingerr B Bands ands to clan clanfy fy the most mo st common tradtrad ing patterns, with W bottoms covered in Chapter 12, and M tops explored in Chapter Chapt er 13 13.. The trickiest phase, walking the ban bands ds,, is taken up next, in Chapter 14. Finally there are two related chap-

ters on volatility. Chapter 15 describes The Squeezewith some examples for for the stoc stock k an and d bond markets. Then Chapte Chapterr 16 provides prov ides the first f irst of of three simpl si mple e meth methods ods that illustrate illus trate the rigorous use u se o off Bollinge Boll ingerr Bands Bands,, a volati volatility-bre lity-breakou akouttsyste sy stem m rooted in The Squeeze. Part V adds indicators to the analytical mix It focuses on coupling bands and indicators in a rational decision-making framework. Chapte Ch apterr 17 offe offers rs a genera ge nerall discussion o off coupling cou pling indicators and bands. Chapter 18 follows with a discussion of volume indicators, indicators, including those that a are re best suited for use with w ith Bollinger Bands. In Chapter 19 and 20, we focus on combining price action and indicators in two rational decision systems using %b an and d volum volume e osc oscil illa lator torss--on -one e sys system tem that th at follows follows trends trend s and an d one that picks highs and lows. Part Pa rt focuses on a coup couple le of advan ad vance ced d topics, such suc h as normalizing indicators with Bollinger Bands (Chapter 21) and

 

techniques for day traders (Chapter 22 , who are making increas inc reasing ing u s e of of BoIlinge BoIlingerr Bands. In Part VI we summ s ummarize arize the major issues iss ues regarding regard ing BoIli BoIling nger er Bands via a list of of rule r uless and offer offer some closing though thou ghts. ts. Endnotess follow Endnote follow Part VI. Where I have had tangential thoughts that were important importa nt but that th at might interru inte rrupt pt the flo flow w of the chapter,, they chapter they have been included in the Endnotes. There is much of value in i n those notes and an d so s o be sure su re to che check ck them ou out. t. The The Endnote End notess also include inclu de refer reference encess for material cited in the chapters. The three trading methods presented in Parts III and IV are anticipatory in nature. Method I uses low volatility to anticipate highinning volatility. Method Metho d 11 uses confirmed confirme d shen sh engt gth h to to anticipate anticipate the beg beginni ng of an uptrend upt rend or confirmed weakness the beginning begin ning of of a dow d owntr ntren end. d. Method Meth od 111antic an ticipa ipates tes reversals reversa ls in two ways: by looking looking for weakenin weak ening g indicator indi cator readings read ings accompanying a series of upp u pper er band tags or by looking looking for stren strengthe gthening ning indicato ind icatorr readings read ings accompanying a series of of lower low er band ban d tags. More dramatically, Method l also looks for nonconfirmed Bollinger Band Ban d tags, a tag of th the e lower band accompanied accom panied b y a positive volume vol ume indicato ind icatorr or a tag of of the upp upper er band accompanying a negative neg ative volume volu me indicator. indicator. And now we tur o u r attent att ention ion to ja jarrgongon-yo you u can t live l ive with wit h

1

it and a nd you can can t live live without it. Man Many y years ago a new hotshot ho tshot executive type at the Financial News Network, who came from radio and an d knew nothing noth ing o off fina finance, nce, declared that upon up on each and an d every ever y use of of jargon jargon the presenter present er had ha d to stop sto p and define the th e term. He had a point. The terminology we used needed to be defined upon occasion, but not compulsively enough to halt the flow of content. A book book allows for a convenient con venient place where whe re ja jarg rgon on can be slain, a Glossary. A lot of of wo work rk went wen t into in to ke keep epin ing g th the e us use eo off jargon jargon to a minimum and into the Glossary, so if you stumble across an unfamiliar term that is undefined in the text, or an unexpected usage,, just usage just turn to the th e Glossary Glossary and an d you ll most likely find the definition. The Glossa definition. Glossary ry serves another pur purpos pose e too too.. In man many y cases cases investing terminology is poorly defined. Terms may have more than one sense or multiple multip le meanings, all of of which can be confusing. In the Glossar Glossary y the sense se nse of of the terms as used use d here is laid out. The book closes closes wit with h a Bibliography-really Bibliography-really more mo re of a suggested reading list that th at is closely closely coupled coupled to the subject subject matter

 

at hand. Itrather to beguide a scholarly cross-reference to the is notit meant literature; is a useful to readily accessible relevant books. Most of the books should shou ld be availabl av ailable e in yo your ur library librar y or easily obtained from yo your ur favorite financial bookseller bookseller.. I have included a handy reference card for your convenience. It's bou b ound nd into the th e back of th the e book. book. The basic Bollinger Bollinger Bands rules are ar e set out on the front of of the card, c ard, the inside presents the M and a nd W patterns, patterns, and an d the back back presents the most important important formulas. Tear it out and use it for a bookmark while you read. Then keep it by your computer so it is handy when you do your analysis. Finally, we have built a Web site, http://www.Bollin~eronBollingerBands.com, to support Bollinger on Bollinger Bands There you'lll find daily you'l daily lists of the stocks stocks that q u y for each of the three methods presented here and a screening area where you can screen a large universe of stocks based on any of of the th e criteria from this book. There is great charting, a community area where you can discuss the issues and ideas related to Bollinger Bands, and links to our other sites as well. well.

Upon finishing this book book you will have at your you r disposa d isposall a set of of tools and techniques that allow you to evaluate potential and actual investments and trades in a rigorous manner. This is an approach that allows you to eliminate much of the emotion surrounding the investing/trading process and therefore allows you to rea reach ch your true potential as an a n investor/ investor/trader. trader.

 

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