The Average True Range (ATR) is a technical analysis indicator that measures market volatility. It was developed by J. Welles Wilder Jr. and introduced in his 1978 book, New Concepts in Technical Trading Systems. The ATR is widely used in forex trading to help traders identify the strength of a trend, determine the level of risk, and establish potential profit targets. In this article, we will explain how to use the ATR in forex trading.
What is the Average True Range (ATR)?
The ATR is a measure of volatility that is calculated by taking the average of the true range over a specified period. The true range is the highest value of the following three values:
1. The difference between the current high and the previous close.
2. The difference between the current low and the previous close.
3. The difference between the current high and the current low.
The ATR is calculated by taking the average of the true range over a specified period. The most common period used is 14, but traders can adjust this value to suit their needs.
How to use the ATR in forex trading?
1. Identifying the Strength of a Trend
The ATR can be used to identify the strength of a trend. The higher the ATR value, the stronger the trend. Traders can use the ATR to confirm whether the trend is gaining or losing momentum. If the ATR is increasing, it indicates that the trend is gaining momentum, and if the ATR is decreasing, it indicates that the trend is losing momentum.
2. Determining the Level of Risk
The ATR can also help traders determine the level of risk in a trade. The ATR value can be used to set stop-loss orders and take-profit orders. Traders can set their stop-loss orders at a distance equal to a multiple of the ATR value. For example, if the ATR value is 50 pips, traders can set their stop-loss orders at a distance of 2 ATRs, which would be 100 pips. This helps traders limit their risk in a trade.
3. Establishing Potential Profit Targets
The ATR can also be used to establish potential profit targets. Traders can use the ATR value to determine how far the price is likely to move. For instance, if the ATR value is 50 pips, traders can aim for a profit target of 2 ATRs, which would be 100 pips. This helps traders maximize their profits in a trade.
Conclusion
In conclusion, the Average True Range (ATR) is a useful technical analysis indicator that measures market volatility. It can help traders identify the strength of a trend, determine the level of risk, and establish potential profit targets. Traders should use the ATR in combination with other technical analysis indicators to make informed trading decisions. It is important to note that the ATR is not a stand-alone indicator and should be used in conjunction with other trading tools.
