ATR (Average True Range)
Measuring volatility in absolute terms -- True Range, Wilder's smoothing, stop-loss placement, and position sizing.
What is the Average True Range?
The Average True Range (ATR) measures how much the price moves per candle on average. It does not tell you which direction the price is going -- just how large the moves are. High ATR means the candles are big (lots of movement). Low ATR means the candles are small (calm market).
ATR is one of the most practical indicators because it directly informs risk management decisions: where to place stop-losses, how to size positions, and how to calibrate expectations for how far the price might move on any given candle.
True Range -- The Building Block
Before averaging, ATR first calculates the True Range for each candle. True Range accounts for gaps -- situations where the current candle opens well above or below the previous close.
In plain English: take three measurements and pick the largest one. The first is the current candle's range (high minus low). The second and third check whether the current candle's high or low is far from where the previous candle closed. If the market gapped up or down, one of those gap measurements will be larger than the candle's own range.
For most candles in most markets, the high-minus-low is the largest value. The gap measurements only matter when there is a significant gap between candles -- which is common in stocks (overnight gaps) and less common in 24-hour markets like forex and crypto.
How ATR is Calculated
In plain English: take the previous ATR, multiply by (N-1), add the current True Range, and divide by N. This is Wilder's smoothing method -- the same one used by RSI and ADX. It produces a smooth line that gradually adjusts as volatility changes.
The first ATR value is seeded with the simple average of the first N True Range values. After that, each new candle updates the ATR incrementally.
Practical Uses
Stop-loss placement
The most popular use of ATR: set your stop-loss at a multiple of ATR from your entry price. For example, a "2x ATR stop" means placing the stop 2 times the current ATR value below your long entry (or above your short entry).
This approach adapts automatically to volatility. In a calm market with ATR of 0.5, the stop is 1.0 away from entry. In a volatile market with ATR of 2.0, the stop is 4.0 away. The stop stays proportional to the current market conditions, avoiding the problem of getting stopped out by normal noise.
Position sizing
ATR helps normalize risk across different assets. If you want to risk the same dollar amount on every trade, divide your risk budget by the ATR to determine position size. A high-ATR asset gets a smaller position; a low-ATR asset gets a larger one.
Volatility filter
Some strategies perform better in high or low volatility environments. Use ATR as a filter: only take trades when ATR is above (or below) a threshold. This can help avoid whipsaw periods when the market is too quiet for trend strategies, or too wild for mean reversion strategies.
Parameters
ATR vs NATR
ATR is in absolute price units. A stock at $50 with ATR of 2.0 is moving about $2 per candle (4% of price). A stock at $500 with ATR of 2.0 is also moving $2 per candle, but that is only 0.4% of price -- much less volatile in relative terms.
NATR (Normalized ATR) solves this by expressing ATR as a percentage of the closing price: NATR = (ATR / close) * 100. Use NATR when you need to compare volatility across assets at different price levels.
Things to Watch Out For
ATR says nothing about direction
A rising ATR means volatility is increasing -- the candles are getting bigger. It does not mean the price is going up. A crash produces rising ATR just like a rally does. If you need direction, pair ATR with a trend indicator.
ATR lags behind sudden volatility spikes
Because ATR uses Wilder's smoothing, it takes several candles to fully reflect a sudden increase in volatility. The first large candle only nudges ATR upward -- it takes a series of large candles before ATR catches up. This means ATR-based stops may be too tight immediately after a volatility shock.
Where to Go Next
Bollinger Bands -- volatility bands on the price chart, showing squeezes and breakouts.
Volatility Indicators Overview -- all 4 volatility indicators available in Simula.
Stop-Loss, Take-Profit & Trailing Stops -- how to use ATR for setting protective exits.
Parabolic SAR -- another approach to trailing stops that uses acceleration rather than volatility.