Average True Range (ATR) is a widely used technical analysis indicator designed to measure market volatility. Created by J. Welles Wilder Jr. in the late 1970s, ATR helps traders understand the degree of price movement within a given period, regardless of the direction. Unlike many other indicators that focus on price trends or momentum, ATR purely gauges how much an asset’s price fluctuates, making it a valuable tool for managing risk and setting stop-loss levels.

At its core, the ATR calculates the “true range” for each period, which considers gaps and limit moves that simple high-low ranges might miss. The true range is defined as the greatest of the following three values:

1. Current high minus current low
2. Absolute value of current high minus previous close
3. Absolute value of current low minus previous close

Formula:
True Range (TR) = max[(High – Low), |High – Previous Close|, |Low – Previous Close|]

The ATR itself is typically an n-period moving average of the true range values. For example, the standard setting is a 14-period ATR.

Formula:
ATR = (Previous ATR * (n – 1) + Current TR) / n

This smoothing process helps filter out short-term spikes and provides a more stable measure of volatility over time. A higher ATR value suggests increased volatility, while a lower ATR indicates a quieter market.

To illustrate, consider a trader monitoring the EUR/USD currency pair. Suppose the 14-day ATR for EUR/USD is currently 0.0050 (or 50 pips). This means that on average, the daily price range is about 50 pips. If the trader is setting a stop-loss for a short-term position, understanding this volatility helps avoid placing stops too close, which might get triggered by normal price fluctuations. Instead, the trader might set the stop-loss at a distance greater than the ATR to allow the trade room to breathe.

Similarly, in stock trading, say Apple Inc. (AAPL) has an ATR of $3.00 over the last 14 days. This indicates that on average, Apple’s daily price movement is about $3. A trader planning to enter a swing trade might use this information to position their stop-loss just beyond this range to avoid premature exits.

Many traders use ATR for position sizing as well. By incorporating ATR, one can tailor trade sizes to accommodate current volatility—taking smaller positions during highly volatile periods and larger ones when the market is calmer. This approach helps maintain consistent risk levels.

Common misconceptions about ATR often revolve around its interpretation. Some traders mistakenly use ATR to predict price direction, but ATR itself does not signal whether prices will go up or down—it only measures the extent of price movement. Another frequent error is relying on ATR values across different assets without adjustment. Since ATR is an absolute measure, comparing ATR values between a low-priced stock and a high-priced stock directly can be misleading. Instead, traders sometimes use ATR as a percentage of price to normalize volatility.

People often search for related queries such as “How to use ATR for stop-loss,” “ATR indicator settings,” “ATR vs. Bollinger Bands,” and “ATR for day trading.” These queries highlight the practical applications of ATR in managing trade exits, confirming volatility changes, and integrating with other indicators.

In summary, the Average True Range is a straightforward yet powerful volatility indicator that helps traders understand market conditions and manage risk effectively. By measuring the true range of price movements and smoothing these values over time, ATR offers a clear picture of how much an asset’s price fluctuates on average. When used correctly, it enhances trade management, especially in setting stop-loss orders and determining position sizes.