The Average True Range indicator or “ATR” can be a valuable tool when a trader understands what it actually is. The key is right in the name. The Average TRUE Range. The ATR was developed by J. Welles Wilder in 1978. Unlike what most traders believe, it was not designed to help indicate the price trend, but to measure the degree of price volatility. ATR can be very valuable to Nadex binary option and spread traders since it was designed for more volatile markets at its origin. Unlike most technical indicators, the ATR was developed for commodities and daily price ation, not stocks and longer term price action. The ATR is simply a moving average of the true range calculation.
The range of a trading instrument is simply the high of the period minus the low of the period. For example, if on the most recent candle or bar of a crude oil-daily chart, the high was $50 and the low was $49 then the daily range would be $1. The price range of a commodity gives the trader information about the volatility of the market. Large price ranges mean high volatility and small ranges mean low volatility. So what is the TRUE range? The true range takes into account, gaps in prices from one bar’s or candle’s close to the next.
Using the same example above, if the previous days close was $49 and the next days open and high is $46 while it’s low was $44, the daily rage would be $2 ($46-$44). It’s true range however, would be $5 ($49-$44)!!!! The gap down from the previous day’s close, which is included in the true range, would show the true price volatility of this gap while a simple daily range would not.
Understanding indicators before applying them can save you heartache and more importantly money so learn everything you can when given the opportunity.