ATR indicator: settings and signals

ATR measures the average range of a bar over a period in price units and answers the question "how much does this instrument usually move".

What the indicator looks like on a real chart

What the indicator actually measures

The true range accounts not only for the range of the current bar but also for gaps: it takes the maximum of three quantities — the bar range, the distance from the high to the previous close, and from the low to the previous close. Because of this a gap is not lost but enters the volatility calculation.

ATR is fundamentally non-directional. A sharp rise and a sharp fall contribute equally, so the indicator cannot be used to judge direction — only the magnitude of the move. This is not a limitation but the purpose of the tool.

The practical value of ATR lies not in signals but in normalization. A 50-pip stop means different things on a calm and on a volatile market; a stop of two ATR means the same thing always. The same principle works for position sizing: by fixing risk in fractions of ATR, a trader gets comparable risk across different instruments.

Formula

The true range takes the maximum of three distances in order to account for gaps between bars. Wilder smoothing is then applied — the same as in RSI — so ATR has a long memory and reacts to volatility spikes gradually.

Standard settings

Period 14 is Wilder's original value. Shorter periods (7–10) reflect a change in the volatility regime faster and suit calculating intraday stops. Multipliers of 1.5–3 ATR for a stop-loss are an empirical range: too tight a stop is knocked out by market noise, too wide a stop makes the per-trade risk unacceptable.

Implementation code (Python)

def atr(high, low, close, period=14):
    prev_close = close.shift(1)
    tr = pd.concat([
        high - low,
        (high - prev_close).abs(),
        (low - prev_close).abs(),
    ], axis=1).max(axis=1)
    return tr.rolling(period).mean()

When the indicator stops working

Common mistakes in use

• Trying to trade in the direction of ATR. A rise in the indicator means a strengthening of the move in either direction, not a rise in price.
• Setting a fixed stop in pips on an instrument with changing volatility — on a calm market it will be excessive, on an active one it will be knocked out by noise.
• Comparing ATR of different instruments directly, forgetting that it is a quantity in price units.
• Treating a high ATR as a sign of a good opportunity. High volatility increases both the potential profit and the potential loss equally.

Who needs this and why

A mandatory tool for anyone who sizes positions and sets protective levels. It gives no entry signals but determines what the per-trade risk should be.

Frequently asked questions

Other «Volatility» indicators