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Trading Tips

Watching for a Market Explosion or Implosion

I’ve written on several occasions, including my first ever article published in Stocks & Commodities, on the subject of using Bollinger Bands in regards to identifying trends, especially the early stages of them. Basically, I use the Bands to look for situations where a market is ready to make a big move. In reviewing the charts this morning I noticed just that sort of situation in the stock market. Check it out.

SPX120709

Notice how tight the Bands have gotten thanks to the relatively narrow range the market has been in the last few weeks. The BWI indicator at the bottom of the chart (Band Width Indicator) says they Bands are about 2.8% wide relative to the 20-day moving average. That’s the lowest BWI reading in a while. The Volatility Reference Indicator (my own creation) tells us where the current Band Width is in relation to its extreme readings for the last year. It’s at 0, meaning the Bands right now are the narrowest they’ve been in at least a year.

All this means we should be looking for something big to happen. The narrower the Bands get, the more explosive is the move which follows them. If stock volatility expands rapidly (which is what an expansion in the Bands from the current narrow reading would mean), you can be sure similar types of action would be going on in the dollar, bonds, and commodities.

Alas, the Bands won’t tell us which way the eventual volatility expansion will take the market. Other tools are required there.