Average True Range (ATR): What It Means and How to Use It

Key Takeaways

The Average True Range (ATR) is a volatility indicator in daily use by traders across financial assets, including cryptocurrency.

Crypto traders use ATR to determine a token’s volatility. The indicator measures the average distance between highs and lows according to a set formula.

ATR is useful when assessing suitable market entry and exit points, as well as when setting Stop-Loss orders to lock in profits.

Some disadvantages lie in its relatively narrow scope of insight; ATR is merely an expression of volatility, not market direction, and its readings do not infer specific meaning for price as a whole.

ATR was first developed by John Welles Wilder, Jr. in the late 1970s and was originally intended for commodities trading, but has since become ubiquitous. The same is true of other indicators created by Wilder, among them the hugely popular Relative Strength Index (RSI).

Calculating the Average True Range (ATR)

The ATR is a commonly used trading tool, and as such is calculated automatically by TabTrader.

However, it is important to understand its constituent parts in order to use the readings generated effectively. A single ATR value may not hold valuable information for a trader who does not understand which ‘range’ it represents.

ATR is calculated from the True Range, which is based on three values: today’s high — today’s low; today’s high — yesterday’s close; yesterday’s close — today’s low.

The largest result corresponds to the True Range, which is then calculated for a set of candles to compile the ATR period. Normally, this is set to 14.

Using these three calculations allows traders to account for any “gapping” in the market — when there is a difference between one candle close and another’s open. This is more commonly observed in traditional financial markets, as these have full days with no trading activity at all. Crypto markets, by contrast, are open 24/7, but gaps still routinely appear on derivatives such as Bitcoin futures.

Average True Range (ATR) Formula

Using the above process, the formula for ATR is expressed as follows.

For the True Range:

Current period high minus (-) current period

Absolute value of the current period high minus (-) the previous period close

Absolute value of the current period low minus (-) the previous period close

True Range = max[(high - low), (high - previous close) or (low - previous close)]

How to use ATR in trading

ATR, particularly when used in conjunction with other volatility indicators, can provide valuable insights into an asset’s price action and help delineate entry and exit points, including suitable positions for Stop-Loss orders.

ATR values will increase with rising volatility and decrease as volatility wanes. This can be easily observed on a given chart, such as with BTC/USD below.

Larger candles precede an uptick in ATR, and vice versa, depending on the appearance of a given candle within the lookback period. ATR is showing the pair acting within an expanding and/or decreasing range.

On this BTC/USD daily chart, a large downward candle significantly increases the ATR reading thanks to providing a large True Range value within the ATR lookback period.

This candle becomes a one-off event, with subsequent candles showing reduced volatility.

Once the initial volatile candle exits the lookback period, ATR starts to fall. Price is printing less volatile candles at this point, and hence ATR continues decreasing to reflect the current range.

Limitations of ATR

ATR is easy to comprehend as an indicator, and its signals are accessible at a glance to even less experienced traders.

The drawbacks to the indicator lie in this very simplicity — ATR does not offer a rounded view of an asset’s price action, and basing entire trades on it has the potential to result in losses.

One immediate limitation is the fact that the indicator does not give information on price direction — it merely shows how far price has moved.  This is important when trading an asset which encounters a corrective or consolidatory phase which signals the end of a broader uptrend or downtrend.

This is commonplace — no assets, not even crypto during a strong bull or bear market, go up or down in a straight line ad infinitum. 

If at the end of an uptrend, for example, a consolidation phase enters, the asset could see a corrective move down, followed by sideways price action before reversing. Seen through the lens of ATR, however, this could give a false impression of what is happening. A trader may see ATR expanding on the initial corrective move, as this might increase the True Range. Price, however, ultimately fails to follow through and continue its prior uptrend.

In the chart below, BTC/USD makes a local high near $70,200 during the March 25 candle. Price then drops, but ATR continues to rise. Ultimately, price tracks sideways from then on, only managing two modestly higher highs. ATR itself then begins falling to reflect the lack of volatility.

Analyzing ATR values one at a time can add to the confusion. A single range value has little meaning without context — knowledge of historical price action. ATR analysis which spans multiple candles is not exempt from this issue, as knowledge of significant support and resistance levels from times passed is essential when predicting suitable entries and exits.

Which Indicators Can Be Used With ATR?

ATR does not constitute an all-in-one basis for a trading strategy, and its signals can quickly give a trader the wrong impression of market conditions.

As such, it is common practice to use ATR as part of a multi-indicator approach, where traders test the signals each gives by comparing data from the others.

This is not only valid for strategies leveraging ATR signals; it is standard to look at price action from several angles, and doing so is especially important in crypto thanks to the heightened volatility that tokens often experience.

Using ATR with the Parabolic SAR

A classic trading indicator pairing for crypto traders is the combination of the ATR with the Parabolic SAR.

Parabolic SAR features a set of dots which accompany price both up and down, serving as useful cues for placing Stop-Loss orders.

Together, ATR and Parabolic SAR can provide reliable information on where such orders can be placed with maximum effect.

TabTrader has a dedicated Academy article on the Parabolic SAR and how to trade with it which is available here.

Using ATR with the Stochastic Oscillator

The Stochastic Oscillator is another trading indicator which can help contextualize price action when used together with ATR.

Stochastic Oscillator signals revolve around comparing a given closing price to its range of prices over a given lookback period.

In so doing, it creates hints as to when price is experiencing ‘overbought’ or ‘oversold’ conditions — regardless of what the given closing price under assessment actually is. 

Using ATR with the Relative Strength Index (RSI)

Relative Strength Index (RSI) is one of the foundations of crypto trading, and even shares its founder, John Welles Wilder Jr., with ATR.

RSI provides context to market conditions at a given price point. It essentially identifies whether price is ‘overbought’ or ‘oversold’ using a 1-100 scale. Traders look for RSI crossing the key midpoint from above or below which can indicate an entry or exit opportunity, respectively.

Leveraging these signals can offer important confirmation of ATR data, and crucially adds information on trend direction. 

As one of our most popular indicators, TabTrader Academy has a full guide to RSI and how to use it which can be found here.

The Bottom Line

The Average True Range (ATR) indicator is a tool commonly used in crypto and traditional technical analysis to measure market volatility over a specified period.

As a volatility yardstick, ATR provides traders with insight into the level of price volatility in the market, helping them adjust their trading strategies accordingly. It can further help in trend confirmation, with higher values more strongly indicative of a strongly-trending market.

When eyeing market entries and exits, traders can leverage ATR as part of risk management — its signals can be used to set Stop-Loss orders and avoid unnecessarily losses on a given trade. Using ATR nonetheless comes with its caveats, some of which are common to basic trading indicators more broadly. 

ATR values, particularly when taken one at a time, do not provide any insight into trend direction, nor do they offer objective analysis of the significance of the range itself beyond ‘higher’ or ‘lower’.

ATR data can be improved somewhat by smoothing its values or using moving averages, which can help remove unreliable signals or ‘noise’ from the chart.

Despite this, TabTrader recommends using ATR only in conjunction with other indicators in order to get a reliable impression of an asset’s price action.

Trade using ATR in TabTrader

Whether beginner, day trader or crypto guru, TabTrader has the power to revolutionize your trading.

Our all-in-one trading terminal puts hundreds of trading instruments, thousands of tokens and the world’s biggest exchanges in the palm of your hand — whether at home or on the go.

The TabTrader app is available now for iOS, Android and Web, meaning that there is always an easy and convenient way of accessing your portfolio, tweaking your strategy and executing trades.

ATR is just one of the integrated features which come as standard with TabTrader. To discover them all and get the answers to your most burning questions on crypto and trading, check out the wealth of knowledge at the TabTrader Academy.

We’re constantly updating our products with new and exciting possibilities. Follow the TabTrader Blog to make sure you never miss out on the latest news, announcements and upgrades.

FAQ

What does Average True Range tell you?

Average True Range (ATR) is a volatility gauge for an asset’s price action. It shows increasing or decreasing volatility relative to the given lookback period, which is normally 14 periods. ATR data can factor into market assessment when planning an entry or exit, and can help traders identify suitable Stop-Loss levels.

What is the best ATR setting?

By default, ATR has a lookback period of 14 candles in TabTrader. Changing this will make the indicator either more (smaller lookback period) or less (longer lookback period) sensitive. ATR data can also be smoothed with moving averages in order to blot out ‘noise’ resulting from brief periods of volatility.

How does ATR work in crypto?

ATR can be applied to crypto in the same way as any other financial asset. It is important to appreciate the inherently volatile nature of many crypto tokens, and thus always backtest ATR signals by using the indicator in conjunction with others, for example the Parabolic SAR or Stochastic Oscillator.