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Average True Range (ATR)
The Average True Range is an indicator of volatility. It was developed by J. Welles Wilder in 1978. As well as the many other indicators, first it was created for the commodity markets - which are more unsteady than shares - and for the prices at the end of the day. Nowadays, it is widely used in the forex market and on other periods, too.
First, Wilder defines the True range, or TR, determined as maximal of the following 3 values: absolute value of a distinction between ongoing maximum and the previous close price, absolute value of a distinction between ongoing minimum and the previous close price, and distinction between an ongoing maximum and an ongoing minimum. If the distinction between a maximum and a minimum is rather little, then most likely the other two previously mentioned methods would be used for TR calculation. If the range changes inside of the period, a distinction between a maximum and a minimum is rather big, TR will probably calculate from it.
Formula:
ATR = Moving Average (TRj, n), Where TRj = maximal modules from three values |High - Low |, |High - Closej-1 |, |Low - Closej-1 |.
Chart:
The use
As a rule, ATR with 14 periods is used. It is calculated both on a one-day basis, and on daytime or week and even monthly basis. Extreme values of the indicator often define reversal points or the start of a new fluctuation.
Average True Range cannot predict a duration or direction of changes, as well as other volatility indicators. It specifies only an activity level. The indicator's low level, points out quiet trade in a small range, while high values, points out intensive trade in a wide range. The long period of low ATR points out integration, which, most probably, will result in fast continuation of changes or a turn.
High values of ATR usually are the result of quick fluctuations and seldom stay like this for the long period. As ATR indicates absolute volatility value, currency pairs on Forex with the low prices will have with other things being equal lower ATR and on the opposite. The main notion of this indicator states, "The smaller is the indicator's value the more poor a trend direction is; the higher the indicator's value is, the higher possibility of a turn of a trend is."
The weaknesses
During a long period of ATR can be late, specifying not ongoing but previous inconstancy.