Playing the bands is based on the premise that the vast majority of all closing prices should be between the Bollinger Bands. That stated, then a stock's price going outside the Bollinger Bands, which occurs very rarely, should not last and should "revert back to the mean", which generally means the 20-period simple moving average. A version of this strategy is discussed in the book Trade Like a Hedge Fund by James Altucher.
Buy Signal
In the example shown in the chart below of the E-mini S&P 500 Future, a trader buys or buys to cover when the price has fallen below the lower Bollinger Band.
Sell Signal
The sell or buy to cover exit is initiated when the stock, future, or currency price pierces outside the upper Bollinger Band.
These buy and sell signals are graphically represented in the chart of the E-mini S&P 500 Futures contract shown below:
More Conservative Playing the Bands
Rather than buying or selling exactly when the price hits the Bollinger Band, the more aggressive approach, a trader could wait and see if the price moves above or below the Bollinger Band and when the price closes back inside the Bollinger Band, then the trigger to buy or sell short occurs. This helps to reduce losses when prices breakout of the Bollinger Bands for a while. However, many profitable opportunities would be lost. To illustrate, the chart of the E-mini S&P 500 Future above shows many missed opportunities. However, in the chart on the next page, the more conservative approach would have prevented many painful losses.
Also, some traders exit their long or short entries when price touches the 20-day moving average.
A different, and quite polar opposite way to use Bollinger Bands is described on the next page, Playing Bollinger Band Breakouts.
Next Page - Bollinger Band Breakouts
