The Average True Range (ATR) is a powerful and widely used technical analysis tool designed to measure market volatility. Unlike many other indicators, ATR doesn’t predict price direction—instead, it provides traders with critical insights into how much an asset typically moves over a given period. This makes it an essential component in risk management, position sizing, and trade planning.
Developed by J. Welles Wilder and introduced in his 1978 book New Concepts in Technical Trading Systems, the ATR remains a cornerstone of modern trading strategies more than four decades later. Alongside other influential tools like the Relative Strength Index (RSI), Parabolic SAR, and ADX, ATR continues to help traders across markets—from stocks to forex and cryptocurrencies—make informed decisions based on volatility.
How Is the ATR Calculated?
Most trading platforms include the ATR indicator by default, allowing users to apply it instantly with customizable timeframes—commonly 14 or 20 periods. However, understanding its underlying calculation enhances both confidence and strategic application.
Step 1: Determine the True Range (TR)
The foundation of ATR lies in the True Range, which captures the full extent of price movement, including gaps between sessions. For any given period (e.g., daily), the True Range is the greatest of the following three values:
- Current high minus current low
- Absolute value of current high minus previous close
- Absolute value of previous close minus current low
This method ensures that sudden price jumps—such as those seen during earnings reports or macroeconomic news—are reflected accurately in volatility measurement.
Step 2: Compute the Average True Range
Once the True Range is established for each period, the ATR is calculated using a smoothed moving average. The most common setting is 14 periods, and the formula is:
ATR = [(Previous ATR × 13) + Current True Range] ÷ 14
For the initial ATR value, a simple average of the first 14 True Range values is used. After that, the smoothing process begins. Because this method incorporates prior averages, having at least 250 data points ensures accuracy when comparing manual calculations to platform-generated results.
👉 Discover how volatility impacts your next trade—see real-time data in action.
Visualizing the ATR on Price Charts
When applied to a chart, the ATR appears as a separate line plot beneath the price graph, typically in a sub-window. Its fluctuations correspond directly to changes in market volatility:
- Rising ATR values indicate increasing volatility—often seen during breakouts, news events, or strong trends.
- Falling ATR values suggest decreasing volatility—common during consolidation phases or sideways markets.
Comparing multiple ATR periods (e.g., 14-day vs. 200-day) allows traders to assess whether current volatility is above or below historical norms. This comparative analysis can inform decisions about entering or avoiding trades based on market conditions.
Practical Applications of the ATR in Trading
While ATR doesn’t signal buy or sell opportunities, its real power lies in improving trade execution and risk control. Here are key ways professional traders use ATR:
1. Position Sizing Based on Volatility
By adjusting position size according to current volatility, traders maintain consistent risk exposure. For example:
If your maximum risk per trade is $100 and the ATR suggests normal movement is $5 per share, you might limit your position to 20 shares ($100 ÷ $5). This approach prevents overexposure during highly volatile conditions.
2. Setting Smarter Stop-Loss Levels
Placing stops too close to the entry price often leads to premature exits due to normal price noise. A rule of thumb:
Avoid setting stop-loss orders within 1×ATR of the entry price. Instead, use multiples like 2×ATR or 3×ATR to allow room for natural price swings while still protecting capital.
Trailing stops based on ATR (e.g., 3×ATR below price in an uptrend) are particularly effective in trend-following systems.
3. Breakout and Channel Trading Strategies
ATR helps identify meaningful breakouts from consolidation patterns. For instance:
In an ATR-based channel breakout system, a move beyond a band set at ±N×ATR from a moving average may signal a high-probability entry point. Such setups filter out false breakouts caused by minor price fluctuations.
4. Defining Realistic Profit Targets
Setting take-profit levels aligned with average volatility increases the likelihood of success. For example:
If a stock has a 3% average daily move (ATR %), aiming for a 10% gain within one or two days may be unrealistic. Instead, target gains of 1× to 2× the ATR for short-term trades.
5. Volatility Filtering for Entry Signals
Incorporating ATR as a filter improves strategy performance. You might only take long trades when:
Current ATR > 200-period ATR → indicating above-average volatility and potentially stronger momentum.
6. Comparing Assets Using Percent ATR
To compare volatility across instruments with different prices:
Calculate Percent ATR = (ATR ÷ Current Price) × 100
This allows apples-to-apples comparisons between high-priced and low-priced assets when selecting which ones to trade.
👉 Learn how top traders manage risk using advanced volatility tools.
Frequently Asked Questions (FAQs)
Q: Does the ATR indicator predict price direction?
A: No. The ATR measures only volatility—the magnitude of price movement—without indicating whether prices will go up or down.
Q: What is the best period setting for ATR?
A: The default 14-period setting works well for most traders. Shorter periods (e.g., 7) react faster to volatility changes, while longer settings (e.g., 20 or 50) provide smoother readings ideal for long-term analysis.
Q: Can I use ATR in cryptocurrency trading?
A: Absolutely. Cryptocurrencies are highly volatile, making ATR especially useful for managing risk in crypto markets where large swings are common.
Q: How does ATR handle gaps in price?
A: By incorporating the previous close into its True Range calculation, ATR accounts for gaps between trading sessions—unlike simple high-minus-low range measures.
Q: Should I always use a fixed stop-loss amount?
A: Not recommended. Using a fixed dollar amount ignores changing market conditions. Adjusting stops based on current ATR leads to more adaptive and effective risk management.
Q: Can ATR be used on intraday charts?
A: Yes. Whether trading on 5-minute, hourly, or daily charts, ATR adapts seamlessly to any timeframe, helping tailor strategies to prevailing volatility levels.
Final Thoughts
The Average True Range is more than just a number—it's a window into market behavior. While it won't tell you where prices are headed, it gives you a reliable estimate of how far they might move. That knowledge is invaluable when sizing positions, placing stops, and setting realistic profit goals.
Used wisely, ATR transforms uncertainty into structure, enabling disciplined trading even in turbulent markets.
👉 Start applying volatility-based strategies with precision tools today.