Average True Range

The Average True Range (ATR) is a technical analysis indicator used in financial trading. Released by Welles Wilder in his book, “New Concepts in Technical Trading Systems in 1978”, ATR measures the historical and current volatility of the market.

The ATR only measures volatility, and nothing else. It is known as a directionally neutral indicator.

The indicator is very simple to read, as it’s just a single line which oscillates up and down depending on market volatility.

As volatility increases, the ATR value increases – as volatility decreases the ATR value decreases. The formula is based on the smoothed moving average (SMMA) of the true range over a given period.

The true range itself is the greatest value from the following three, 1) Latest period high minus the latest period low, 2) Absolute value of the latest period high minus the previous close, 3) Absolute value of the latest period low minus the previous close.

While it’s not important to know the calculations behind the ATR, it is important to know how to use it and apply it, since it can offer a definite edge to one’s trading.

Simply put, when a trader understands and implements the ATR indicator, it can allow for a more accurate identification of exit points.

How to Trade Average True Range (ATR)

The number one use of the ATR is its effectiveness in gauging where a trader can place one’s profit targets and stop losses.

If we consider the forex market for example, there are several situations of tradable currency pairs available, which differ vastly in regards to their volatility.

Pairs such as the EUR/CHF and the USD/JPY have a low volatility, while pairs such as the GBP/JPY and the EUR/CAD are much more volatile.

Overall, the larger the ATR value of an asset, the wider the stop loss and profit target.

On the other hand, the smaller the ATR value, the narrower the stop loss and profit target.