The ATR indicator, developed by Welles Wilder, is a measure of the volatility of price changes, originally for commodity markets where volatility is common. However, it is now also widely used by forex traders. Traders rarely use this indicator to discern the direction of future price movements, but rather to understand recent historical volatility in order to prepare a trade execution plan. It is worth noting that Welles Wilder is also the developer of the RSI indicator. He also created the Average Directional Index and the Parabolic SAR indicators. In 1980, Forbes magazine named Wilder "the premier technical trader publishing his work today."
ATR is categorized as an oscillator as the generated curve fluctuates between values calculated based on the level of price volatility over the selected period. It is not a leading indicator as it does not reveal any information related to the price direction. High values suggest wider stop-loss and entry points to prevent the market from moving against you quickly. By using the percentage of the ATR reading, traders can effectively process orders involving proportional size levels customized for the currency at hand.
Experienced traders have learned that ATR is an excellent tool for predicting breakouts and breakdowns in the pricing behavior of a chosen asset. Sudden changes in ATR indicate that investors are committed to executing buy and sell orders. It is widely used in Forex trading and other venues due to its practicality, but it should never be used alone. It is best to combine it with one or two other indicators to assess how the market is reacting at a particular moment.
The ATR indicator is usually displayed at the bottom of the MT4/5 chart. It is often used in conjunction with the Bollinger Bands indicator. Both the ATR and Bollinger Bands overlays are considered volatility measures. Each indicator is a harbinger of increased market activity. As prices fall or rise in a trending manner, the ATR value begins to rise.
In any case, you can build an effective trading strategy around the Average True Range indicator when combined with other technical techniques. But the best way is to find the parameters that work for you during the review process.
How is the ATR indicator calculated?
The ATR indicator calculation formula sequence attempts to eliminate the effects of gaps between market closes to establish an absolute range for each given time period, whether it be a minute, a day, or whatever chart time you choose. The steps are as follows:
For each period selected, calculate three absolute values: a) "Highest Price" minus "Low Price", b) "Highest Price" minus "Close Price" of the previous period, c) "Close Price" of the previous period minus "Lowest Price".
“True Range” (TR) is the largest of the first three calculation results.
ATR is a moving average over a selected period length. The typical length setting is "14".
These calculations may seem complicated and tedious, but their purpose is to record a positive value for each period. There are no negative numbers because the absolute value requires that all signs remain positive.
The ATR indicator consists of a single wave curve. At the peaks and troughs of the curve, you can visually see the candlestick size expand, which is evidence of the intensity of activity.
