Moving Average Envelopes

When you are using a single moving average, you can use an envelope or channel to help see where the price is overextended. An envelope is simply the drawing of a line each side of the moving average, at a distance that may be a fixed percentage away. Typically a short term trader may choose an SMA(20) with a 10% envelope. Here’s the chart –

This chart suggests the market is overextended on the left, and it does return to the envelope in time. But there is a more effective way of drawing limits on the expected price moves than just a fixed percentage, and that is by using a technique discovered by John Bollinger.

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