Day Trading & Forex Forum

What you are identifying when finding low BWI readings is markets which have been relatively range-bound for a period of time.  The tendency is that the longer a market remains narrowly traded (low BWI), the more significant and explosive the move which follows.  Some markets make these moves in fairly orderly fashions, as the USD/JPY example earlier.  That was a fairly gradual, though quite sustained trend which began from a low BWI reading. 

Other situations are more explosive.  Take a look at the circled area on the S&P chart below (continuous contract E-minis).  The BWI reading reached about 2%, which is pretty low for the index on the daily timeframe.  The move which followed dropped the market 40-50 points in less than two weeks.

(click to enlarge)

When reviewing BWI, it is generally not enough to just look for low readings, though.  In most cases, you need to find a situation where the indicator has gotten to a relative extreme, then has begun turning higher.  The reason for this is that BWI can stay low for long periods of time in some cases.  The trader trying to exploit a low reading in such a circumstance, would find her/himself attempting to play a flat market, which obviously is a different type of trading than trend-hunting.

It should also be noted at this point that using BWI to indicate the end of a trend could find one leaving a considerable amount of money on the table.  The example of the USD/JPY trend from September through December 2005 is a perfect example.  Had one exited a long position when BWI rolled over at the start of October, about 600 pips more upside would have been missed.  While a declining BWI can sometimes indicate a trend at or near its conclusion, what it is really saying is that price volatility has dropped off.  In smooth, persistent trends, this happens quite often as the market just continues to grind in one direction.

Naturally, after one finds a market with a low BWI reading, there remains the task of attempting to ascertain which direction the pending move is going to take.  That is an entirely different discussion, though.  The Bollinger Bands themselves may not provide much help there.  One is left to use other directional indications for that task.  One thing to keep in mind, however, is that the initial move which gets BWI rising from a low reading may not be the one which eventually turns in to the big move.  Be prepared for the fake-out maneuver.  It may not always happen, but it does enough to keep traders on their toes.

There could be dozens and dozens of chart examples provided to point out how low BWI readings can indicate “trend-ready” markets.  The suggestion at this point, however, is that you take a look at your favorite market in terms of BWI, and with the tools you use to determine market direction.  If you are a trend trader, BWI may help you be a more successful and profitable one.