How to Profit With the Average True Range Indicator

While the Average True Range (ATR) was originally developed in the 1970s to measure volatility and risk in the commodities market, all trading systems of all asset classes should be focused on risk management.

The ATR Average True Range Formula

The average true range is an oscillator whose calculation involves intricate mathematical formulae.

The first step is to find what is called the “True Range”, which is simply the largest of three differences in price. On a daily chart, these would be:

– 1. Today’s high minus today’s low; – 2. Today’s high minus yesterday’s close; – 3. Today’s low minus yesterday’s close.

Lagging, not predictive

That said, it’s important to understand that it’s a lagging rather than a predictive indicator. It’s perfectly possible for periods of low volatility to coincide with strong trends – and vice versa.

How to use the Average True Range Indicator

Here are some proven ways to make direct use of the ATR indicator.

Setting Stop-Losses

Getting stopped out of a trade that then goes on to exceed its original profit target is one of the frustrations of trading. This often happens because the stop loss has been set too tightly for the volatility of the instrument in question.

Setting profit targets

Knowing the ATR can also help set realistic profit targets and to avoid entering trades that have little chance of success. For instance, when trading forex, we may notice that the EURUSD has been trending strongly during the day.

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