Using the Average True Range (ATR) Indicator in Forex

Volatility is something every investor will love to ride in the forex market. It is the very reason the market exist. There are a number of volatility indicators, and they all share some unique characteristics. Not paying attention to volatility may be costly for anyone’s trading career. The forex niche prides in a number of volatility indicators and we’ll be using the average true range (ATR) in driving home our point.

The average true range essentially tracks the range of price movement in a security. Basically, this implies that the ATR views the spread between the high and low levels of each day or the time interval over a specified timeframe. If the forex pair begins to react wildly, then you’ll experience an increase in value of the average true range. A drop in the value of the average true range signifies a choppy or quiet market. One good thing I love about the average true range is that it doesn’t provide oversold or overbought values.

The Average True Range is an easy to read technical indicator that has the primary role of reading market volatility. A forex trader who’s well vested with ATR is able to employ current volatility to forecast the placement of stop and limit orders on positions that are live in the market.

Application of ATR to Trading

The Average True Range is tagged a volatility indicator due to the fact that it measures the distance between a series of past highs and lows, for a given period. ATR is indicated with a decimal to show the number of pips between the session’s highs and lows. Volatility surges along with the ATR chart value, meaning a trader should be on the lookout for the ATR value. When volatility dips and the difference between the selected sessions highs and lows declines, the ATR will also take a dip.

Investors are able to employ the ATR to control their bets in view of volatility. For big ATR readings on a particular pair, wider stops are advised. This is meaningful because a tight stop on a particular volatile pair is likely to be triggered. We can also see that a wide stop on a less volatile currency pair may just be too bogus. This might just be also true for limit orders. An investor may want to take more pips from a particular trade when the ATR value is high. However, if the ATR is suggesting a low volatility, then investors might just lower their profit outlook.

An Asset’s Volatility Can Increase or decrease

When the average true range line surges, it implies that the asset’s volatility is increasing. Seemingly, when the line dips, I implies that the asset’s volatility is decreasing. However, the average true range is not responsible for showing an investor the direction the asset is going.

The image below on Fig. 1.0 indicates how the average true range defines high and low volatility:

Number 1 – High volatility is depicted by a high ATR and larger daily range.

Number 2 – Low volatility depicted by a lower ATR and smaller daily range.

Guide your Trades Using the ATR indicator

The average true range indicator is constantly being employed by traders to get clues of how far a currency pair’s price is expected to bounce per day. Such an information can be used as a gauge for determining how far away a profit target/stop loss can be pegged from the entry point. If for instance the average true range has a value of 90 pips and the trend that is being observed has exceeded 90 pips, then it mean the likelihood that the trend will come to an end is ever increasing.

2-ATR

Fig. 1.0

The chart below shows haw a trader can employ the average true range to possibly see how far price is likely to go.

2.1-ATR

Fig. 1.1

Number 1 is the average true range indicator at the point in which it highlights the candle, the ATR is 74 pips which is depicted by the red line and the value is on the tail end of the right hand of the red line.

Number 2: A buy position was entered at the start of the day at 1.3593 and the ATR has a target of 74 pips, which means our target exit price is at 1.3667. Howbeit, the close of the day was at 1.3638, as such our profit target was not reached. We could leave the trade open for things to rally on.

Number 3: Our target was reached on the 3rd day, not forgetting that this is a EURUSD, Daily chart. The candle has an open of 1.3624 and a close of 1.1.3668. Our target was reached and the ATR did get the job done.

Conclusion

The setting of the ATR can be altered to affect its sensitivity. ATR setting that are less than 14 creates a more sensitive indicator and yields a choppier moving average line. If the ATR setting is above 14, it becomes less sensitive and we get a smoother reading.

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