the hAndbook of technIcAl AnAlysIsFor upper band short entries, stoplosses may be positioned just above the up-
per band and for downside breakouts, stoplosses may be positioned just below the
lower band. The stopsize will depend on the type of price filter used.
The management of risk plays an important part. For example, a breakout
trader will normally initiate a trade once an upper band breakout occurs, with
the stoploss usually placed either slightly below the central value, lower band,
or upper band itself. Should the tradesize be based on a fixed percentage of
capital, there will be no difference in the risk associated with any of the break-
out entries.
But if the tradesize is based on a fixed number of shares, lots, or contracts
per entry, the risk will vary with each entry. In such cases, many traders who are
contemplating initiating a breakout entry of the upper band may instead go long
at the lower band with a stoploss placed just below the lower band instead, which
is associated with lesser risk. The trader therefore may choose to go long in an
uptrend via a reversal entry at the lower band support, and may also decide on
holding on to the position after testing or breaching the upper band. There are
two approaches in trading reversal entries. Band based reversal traders go long
at the lower band and short at the upper band, regardless of the market trend.
Trend based reversal traders only go long at the lower band in an uptrend and
short at the upper band in a downtrend. It should be noted that reversal entries
buy and sell at more advantageous prices when compared to breakout entries. See
Figure 12.10
Finally, positioning stoplosses just beyond the bands for breakouts and re-
versal entries will work fairly well with most bands except Bollinger Bands. This
is because Bollinger Bands diverge during high periods of volatility. This makes
it difficult to position the stoplosses effectively. One solution is to use the central
value, which is a simple moving average, for stop placement.
Figure 12.10 Difference between Band Based Reversal Entry and Trend Based
Reversal Entry.