Definition:
The Average True Range or ATR indicator give a trader a sense of the volatility or level of price swings prevailing in the market. The indicator was developed by J. Wells Wilder who wrote about it in his "New Concepts in Technical Trading Systems" book.
Many successful trading systems use this popular indicator to provide a sense of trading risk that can be useful when sizing positions using risk-based criteria. A low value of the indicator signals a peaceful, ranging market, while a high value indicates a greater incidence of sharp price swings, or perhaps a dramatic crash or spike in market prices.
Sample Chart:
Usage:
Traders often use the Average True Range indicator like other volatility indicators to provide a sense of the risk prevailing in the market.
For example, they might use it to weight positions, with a higher ATR value implying that the trader takes a smaller trading position in order to maintain a consistent level of risk among positions taken in different markets or currency pairs. Conversely, a lower ATR value would indicate taking a larger trading position.
In terms of forecasting, the ATR might be used to indicate the chances of a trend reversal. If the ATR value is high, that could indicate a greater probability of a directional change that often comes after a period of high volatility. On the other hand, if the ATR was low, that would tend to indicate a weak trend and a ranging market.
Calculation Method:
In essence, the Average True Range is a moving average of the True Range and is usually taken over 14 time periods. Some traders vary the type of moving average used to achieve different goals, perhaps using exponential, smoothed or weighted moving averages instead of a simple average.
Define:
- n= the current time period
- High(n)= The high price traded during time period n.
- Low(n)= The low price traded during time period n.
- Close(n-1)= The closing price of the time period immediately prior to n.
- SMA(A,B)= Simple Moving Average of data item A, taken over B time periods.
- TR(n)= True Range for time period n.
- ATR(n, B)= Average True Range taken over B time periods for time period n.
Calculate:
- True Range or TR(n)=MAX [{High(n) – Low(n)}, {Close(n-1) - High(n)}, {Close(n-1) - Low(n)}]
- ATR(n, 14)= SMA(TR(n), 14)
Practice ATR Trading
Technical analysis with RSI is a demanding skill that requires practice to master. We recommend that you use a demo account to train yourself for free before applying your skills to real money trading.
Most reputale trading platforms today (for example: GFC Trader, AVA Trader, Meta Trader) feature technical indicator functions which can be applied on real-time charts. You can open a free account, download the trading software and start sharpening your technical analysis skills today!
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