Volatility Bands Area

I took the bollinger bands area code and modified it to compliment my risk management process. It takes the standard deviation of log returns and applies that against the prior close using the numdevs (number of standard deviations) parameter to draw bands of expected price range based on realized volatility. The bands are centered at the prior close. This is unlike the BB area indicator which centers at the average price - volatility isn't relative to the average price.

My intended use is to give me an idea of where I should buy and sell options to hedge my position. My max size is based on an assumption of normality of returns (see my standard move indicator), but I know that this assumption is false. By hedging at a silly standard deviation move, I protect myself from the flaws of my risk management model in the event of a black swan event.

I might also use it to lighten up on my positions if they get extended relative to the bands, or to load up on a dip.

Good idea !!!!!!!!!!!!! it is more accurate than the bollinger band specially if we work with option. The standard deviation is the most important.

What is black swan event ?

(I am interested as well in option as I follow the courses of powercycletrading.com.)

Glad you like it!

Standard deviation is based on historical data. A black swan event happens when something you didn't see in your data - but was always possible - happens. Until Australia was visited by Europeans, all they had seen was white swans. The "standard deviation" of swan colour was very narrow as of a result. When you use that data to predict what colour swan you find in Australia, you'll be so wrong it'll look like an impossible event.

The lesson is that you should mistrust your statistics; they are never complete in the real world. Take seriously the possibility that prices could move far outside of these ranges, because we don't know everything and statistics are no protection for your hard-earned wealth.