Simply put, the ATR measures the price range of a stock or security so that the higher the volatility of a security the higher the ATR.
The ATR is measured as the greatest of any of the following 3 metrics:
- The current high minus the low
- The value of the current high minus the previous close
- The value of the current low minus the previous close
Finding the average range of a security has a number of important implications that can help make better trading decisions.
Using the ATR outright to trade volatility
First of all, the ATR can be used as a trading signal in its own right. Let’s say that you are watching a market for a number of days and you have noticed that volatility has dropped significantly from its historical average. Since low periods of volatility often precede explosive moves in either direction, you could wait for the ATR to increase and place a trade in the direction of the move. Crossovers can also be used. For example, placing a trade when the fast ATR (eg. 14 period) crosses over a slower ATR (eg. 100 period). This can be an effective breakout volatility strategy.Using the ATR for profit targets
For day traders, knowing the average range of a security is extremely useful since it allows you to estimate how much profit potential there is in the market.For example, there is no point looking for 150 pips of profit from a trade in GBPUSD, if the average range for that market over the last 14 days is only 80 pips. You will simply end up waiting for profits that do not come and will likely end up losing money.
A better solution is to halve the 14 day ATR and use this as your profit target. In other words, after entering a trade in GBPUSD as above you can give yourself a profit target of around 40 pips. This is a much safer way to trade.
Using the ATR as a filter
The average range is also a good indicator to use for filtering out trades. Traders typically need volatility to make any money so if you have a system that generates lots of different signals, you can filter out those ones that are low in volatility by discarding those with a low ATR. Concentrating on markets with the highest ATR’s mean you can trade the markets that are experiencing the most movement and therefore the most profit potential.
Editors’ Picks
GBP/USD bulls retain control near 1.3300 mark, highest since March 2022
The GBP/USD pair trades with a positive bias for the third straight day on Friday and hovers around the 1.3300 mark during the Asian session, just below its highest level since March 2022 touched the previous day.
USD/JPY pops and drops on BoJ's expected hold
USD/JPY reverses a knee-jerk spike to 142.80 and returns to the red below 142.50 after the Bank of Japan announced on Friday that it maintained the short-term rate target in the range of 0.15%-0.25%, as widely expected. Governor Ueda's press conference is next in focus.
Gold consolidates weekly gains, with sight on $2,600 and beyond
Gold price is looking to build on the previous day’s rebound early Friday, consolidating weekly gains amid the overnight weakness in the US Dollar alongside the US Treasury bond yields. Traders now await the speeches from US Federal Reserve monetary policymakers for fresh hints on the central bank’s path forward on interest rates.
Shiba Inu is poised for a rally as price action and on-chain metrics signal bullish momentum
Shiba Inu remains strong on Friday after breaking above a symmetrical triangle pattern on Thursday. This breakout signals bullish momentum, further bolstered by a rise in daily new transactions that suggests a potential rally in the coming days.
Bank of Japan set to keep rates on hold after July’s hike shocked markets
The Bank of Japan is expected to keep its short-term interest rate target between 0.15% and 0.25% on Friday, following the conclusion of its two-day monetary policy review. The decision is set to be announced during the early Asian session.
RECOMMENDED LESSONS
Making money in forex is easy if you know how the bankers trade!
Discover how to make money in forex is easy if you know how the bankers trade!
5 Forex News Events You Need To Know
In the fast moving world of currency markets, it is extremely important for new traders to know the list of important forex news...
Top 10 Chart Patterns Every Trader Should Know
Chart patterns are one of the most effective trading tools for a trader. They are pure price-action, and form on the basis of underlying buying and...
7 Ways to Avoid Forex Scams
The forex industry is recently seeing more and more scams. Here are 7 ways to avoid losing your money in such scams: Forex scams are becoming frequent. Michael Greenberg reports on luxurious expenses, including a submarine bought from the money taken from forex traders. Here’s another report of a forex fraud. So, how can we avoid falling in such forex scams?
What Are the 10 Fatal Mistakes Traders Make
Trading is exciting. Trading is hard. Trading is extremely hard. Some say that it takes more than 10,000 hours to master. Others believe that trading is the way to quick riches. They might be both wrong. What is important to know that no matter how experienced you are, mistakes will be part of the trading process.
Moneta Markets review 2024: All you need to know
VERIFIED In this review, the FXStreet team provides an independent and thorough analysis based on direct testing and real experiences with Moneta Markets – an excellent broker for novice to intermediate forex traders who want to broaden their knowledge base.