IG accepts no responsibility for any use that may be made of these comments and for any consequences that result. To further explore the ATR, please test-drive your theories using the #1 Market Replay Tool – Tradingsim.com. Someone could make the argument that of course, Apple reversed; you could see how quickly the price moved down…no brainer. Alternatively,  you could be more conservative and trade stocks with a volatility ratio of .0025 – .0050 on a 5-minute scale. As you begin to analyze the volatility ratio of stocks, you will begin to identify the stocks that have just the right mix of volatility for your trading appetite.

Large ranges indicate high volatility and small ranges indicate low volatility. The range is measured the same way for options and commodities (high minus low) as they are for stocks. However, the price of the stock’s already risen above the average; hence it is not advisable to assume that the price will rise further. As the stock price is significantly higher than the average, there is a high possibility that the price will fall. Therefore, it is better to short sell provided the investment strategy of the investor shows an appropriate sell signal. As you can see from the above chart example of Apple, the average true range moves lockstep with the price action shifts from highs to lows.

Remember, the ATR is an absolute value, so you can have a high ATR while the stock price is plummeting. That’s why traders commonly use the technical indicator to figure out entry and exit points. Some traders also use a multiplier to detect abnormal price movements (an ATR with a 1.2 multiplier, for example).

Average true range formula

Specifically, if a price bar’s range does not close the gap formed from the close of previous bar, then the previous close is used instead of the high/low price that is closest to the gap. Thus, true range is always greater than or equal to the range of a price bar. Using the Average True Range when placing your stop loss allows you to effectively avoid random market noise. By setting the protective stop far away from the entry point, according to the ATR value, temporary price movements are almost always unable to trigger it and close the position at a loss. Generally, the price move will exceed the ATR value only with a good reason, thus rendering this protective-stop system relatively irrelevant to temporary random price movements. A trailing stop-loss is a way to exit a trade if the asset price moves against you but also enables you to move the exit point if the price is moving in your favor.

Financial instruments with higher prices will have higher ATR than those with lower prices for the same percentage of price change. The first scenario is used when the current high is above the previous periods high and the current low is below the preceding periods low (the previous candle is engulfed by the current one). For example, a sudden increase in the ATR may make some traders think that the ATR is confirming the old trend but this may not actually be the case.

As we enter a short position, we set our profit target at 29 pips, which we wouldve achieved near the low of the candle. A rule of thumb is to multiply the ATR by two to determine a reasonable stop-loss point. So if you’re buying a stock, you might place a stop-loss at a level twice the ATR below the entry price. If you’re shorting a stock, you would place a stop-loss at a level twice the ATR above the entry price. For example, in the situation above, you shouldn’t sell or short simply because the price has moved up and the daily range is larger than usual. Only if a valid sell signal occurs, based on your particular strategy, would the ATR help confirm the trade.

  • Other traders will see a falling ATR reading on an instrument as lower profit potential and lack of momentum due to the lack of market volatility.
  • You could sustain a loss of some or all of your initial investment and should not invest money that you cannot afford to lose.
  • This technique may use a 10-period ATR, for example, which includes data from the previous day.
  • ATR is a measure of volatility, and assets with higher volatility have higher ATRs.

The red line is the percentage value of the volatility of the original ATR indicator. █  Overview
The “Consolidation Indicator” is a custom indicator for TradingView designed to identify consolidation periods in the price chart. Consolidation typically occurs when the price of an asset moves within a narrow range, and this indicator helps traders recognize such conditions.

Interpretation of the Average True Range

Taking a long position is betting that the stock will follow through in the upward direction. Average true range is most appropriately used to identify changes in volatility, which tend to persist over time. On this chart I have added a 14 period ATR to the bottom and on the price portion, this indicator calculates the price point for the trailing stop. For short trades, the calculation is from the close of the candlestick plus 2 X ATR. Other traders will see a falling ATR reading on an instrument as lower profit potential and lack of momentum due to the lack of market volatility. The first discrepancy is at (1) and (2) where ATR is falling but the SD is rising.

Traders can use shorter or longer timeframes based on their trading preferences. Longer timeframes will be slower and will likely lead to fewer trading signals, while shorter timeframes will increase trading activity. When the stock or commodity breaks out of a narrow range, it is likely to continue moving for some time in the direction of the breakout. The problem with opening gaps is that they hide volatility when looking at the daily range. If a commodity opens limit up, the range will be very small, and adding this small value to the next day’s open is likely to lead to frequent trading.

Examples of ATR Trading

Long-term investors may prefer to use a larger number to take a broader measurement. As an example of how that could lead to profits, remember that high volatility should occur after low volatility. We can find low volatility by comparing the daily range to a 10-day moving average of the range. If today’s range is less average true range percent than the 10-day average range, we can add the value of that range to the opening price and buy a breakout. ATR was originally developed for the commodities market, but it can also be applied to forex, stocks and indices. It relies exclusively on historical price action data, but it does not itself show price movements.

Average Range vs. Average True Range – Which one is better?

Nowadays, trading has become a real-time business and intraday data is readily available. 24-Hour trading is also getting more common among many trading instruments. Sometimes, average true range will magnify the volatility when it is undesirable, for example, in very small time frame like 1-minute data series. The average true range indicator can also be displayed on the international trading platform, MetaTrader 4, which we host through our own software.

Using ATR for Day Trading

Besides his extensive derivative trading expertise, Adam is an expert in economics and behavioral finance. Adam received his master’s in economics from The New School for Social Research and his Ph.D. from the University of Wisconsin-Madison in sociology. He is a CFA charterholder as well as holding FINRA Series 7, 55 & 63 licenses. He currently researches and teaches economic sociology and the social studies of finance at the Hebrew University in Jerusalem. The Average True Range (ATR) measures volatility over a specified time period.

Many day traders use the ATR to figure out where to put their trailing stop-loss. Day traders can use the information on how much an asset typically moves in a certain period for plotting profit targets and determining whether to attempt a trade. The “3kilos BTC 15m” is a comprehensive trading strategy designed to work on a 15-minute timeframe for Bitcoin (BTC) or other cryptocurrencies. This strategy combines multiple indicators, including Triple Exponential Moving Averages (TEMA), Average True Range (ATR), and Heikin-Ashi candlesticks, to generate buy and sell signals.

This is because, by tracking volatility in a given time frame, ATR shows when price movements might become more or less sporadic as volatility increases or decreases. If the average true range is expanding, it implies increasing volatility in the market. The average true range is non-directional; hence, an expanding range can be an indication of either short sale or long buy. Again, the ATR is not a standalone indicator for determining stop loss or profit targets when trading. However, one cannot deny the power of combining the ATR with price action to identify a likely change in trend.

On the other hand, during periods of sustained sideways movement, volatility is frequently low. As previously stated Average True Range does not take into account price direction, therefore it is not used as an active indicator to predict future moves. For example, if a security’s price makes a move or reversal, either Bullish or Bearish, there will usually be an increase in volatility. This can be used as a way to gauge the underlying strength of the move.