ATR 14

The Average True Range (ATR) is a volatility indicator that measures the average range of price movement over a specified period, typically 14 days. Developed by J. Welles Wilder Jr., ATR captures the full extent of price movement including gaps, making it superior to simple high-low range for measuring volatility. ATR is essential for position sizing, stop-loss placement, and understanding market volatility.

True Range calculation:

True Range = Maximum of:
  1. Current High - Current Low
  2. |Current High - Previous Close|
  3. |Current Low - Previous Close|

ATR-14 calculation:

ATR-14 = Average of True Range over 14 periods

Why ATR matters:

• Volatility measurement: Quantifies how much price typically moves
• Position sizing: Larger positions in low ATR; smaller in high ATR
• Stop placement: Set stops based on normal price movement
• Market character: Rising ATR indicates increasing volatility

Using ATR for stop-loss placement:

• 1× ATR stop: Tight stop; may get stopped out by normal volatility
• 2× ATR stop: Standard approach; room for normal movement
• 3× ATR stop: Wide stop; allows for significant volatility

Example:

Stock price: $50
ATR-14: $2.00
2× ATR stop: $50 - $4.00 = $46.00 stop price

Interpreting ATR levels:

• Rising ATR: Volatility increasing; larger moves expected
• Falling ATR: Volatility decreasing; smaller moves likely
• High ATR: Market is volatile; requires wider stops
• Low ATR: Market is quiet; may precede breakout

Position sizing with ATR:

Risk per share = ATR × Stop multiplier
Position size = Account risk ÷ Risk per share

ATR characteristics:

• Always positive: ATR cannot be negative
• Relative to price: Compare ATR as percentage of price across stocks
• Not directional: ATR doesn't indicate whether price will rise or fall

ATR is fundamental to professional risk management. Rather than using fixed dollar stops, ATR-based stops adapt to each security's volatility, preventing both premature stop-outs in volatile stocks and inadequate protection in quiet ones.