Measure cryptocurrency volatility: what is the ATR indicator

What is ATR

ATR is short for Average True Range. ATR is a volatility indicator. It shows how the price changes over a certain period of time. With its help, they do not determine the direction of movement, the strength of growth, overbought or oversold. This tool shows how the price of a particular cryptocurrency behaved statistically, enabling the trader to make certain investment decisions.

In most cases, the indicator is auxiliary for limiting losses. Through it, it is quite convenient to limit your risks by placing stop orders, in particular stop loss. This is especially important for such a highly volatile asset class as cryptocurrencies.

How to calculate ATR

To build an indicator, you need to find this very range. This is done quite simply, by finding the largest of the three numbers:

• the difference between the minimum and maximum on the chart for a given timeframe (daily, weekly, monthly, and so on);
• the difference between the high of the current session and the close of the previous one;
• the difference between the low of the current session and the close of the previous one.

For greater clarity, let’s explain with an example. Let’s use the Bitcoin daily chart:

Source: tradingview.com

Calculate the true range for July 18, 2023. Here’s what we get point by point:

• the difference between the low ($29,521) and the high ($30,244) of the July 18 trading session is $723;
• the difference between the July 18 session high ($30,244) and the previous day’s close ($30,154) is $90;
• difference between the July 18 low ($29,521) and the July 17 close ($30,154) = $633.

Of the three values ​​obtained ($723, $90, and $633), the first is the largest. Therefore, it will be a true range. In the future, in order to obtain an average value, an indicator is calculated for each specific day (hour, week, month), after which the arithmetic mean is calculated. In practice, of course, no one will do this manually. The ATR indicator is quite popular and is present on most trading platforms.

The indicator calculation scheme described above is a classic one. It was she who in the late 70s was proposed by the creator of the ATR, Wells Wilder Jr. (Wells Wilder Jr.). In 2023, many traders consider true range not as the largest of three numbers, but simply as the difference between the high and low of the day. In general, the option also has a right to exist. This is especially true for cryptocurrencies on large timeframes (daily, weekly and monthly), since there are practically no gaps (visual breaks in the chart) there. Wilder, on the other hand, studied mainly commodity markets, so he tried to take this factor into account. There gaps met quite often. In this connection, the classical ATR calculation scheme was appropriate.

And how is the indicator applied, and what does it look like visually?

How to apply ATR

There are two main areas of application of ATR. The first is determining the presence of a trend. In this case, the direction up or down does not show ATR. Everything is simple here: the larger the ATR, the greater the price change, and if so, the stronger the volatility, which indicates a trend.

For example, from June 15 to June 23, bitcoin had an uptrend: the coin rose from $24,756 to $31,458. At the same time, ATR also rose. Starting from June 24, the indicator began to fall, as BTC began to trade sideways, where the volatility is much less.

The figure shows the 14-day ATR of bitcoin, the orange arrows show the growth of BTC and the indicator, and the purple arrows show the sideways and the indicator’s fall:

Source: tradingview.com

But it is not necessary to give exact advice here. The only thing, after the ATR began to fall, you could sell bitcoin. Again, making one decision or the other depends on how you trade or invest.

More interesting is the use of ATR for placing stop orders, which limit the risks. The indicator shows on average how the price has changed over a period of time. Thus, it can be assumed that it is unlikely to change more than the average value. Some use the ratio of 2ATR or 4ATR to avoid unnecessary closing of trades.

For example, right now the 14-day ATR is $790. The price of bitcoin on the Bitstamp exchange on July 19 is $29,920. Thus, you can try to buy BTC at the market price, $29,920, placing a stop at $29,130 ​​(= $29,920 – $790). If you are willing to risk, you can place a stop loss at $27,550 (current price – 2 ATR) or at $26,760 (current price – 4ATR).

There is another scheme for using ATR for intraday traders. For example, on July 19, the closing price will be $30,000. And on July 20, the price will skyrocket in the first hours of trading by $3,500 to $33,500. Your ATR is $790, which is 4.4 times less. What is the most likely picture of further events? Decrease. Thus, you can open a short position. ATR works the same way in the opposite direction.

Most often, the platforms have a 14-day ATR. You can change the parameters as you need. There are many cryptocurrencies, the volatility is different, so for each you will need to select your own parameters.

For all its advantages, ATR has a rather limited application. When should it not be used?

Disadvantages of ATR

ATR is a good indicator that reflects price changes. However, trading, relying solely on it, will be reckless enough. ATR only shows whether the volatility of a particular cryptocurrency becomes stronger or weaker. But the indicator does not reflect either the direction of movement or the strength of the trend. In this connection, it must be used together with other indicators of technical and fundamental analysis.

How useful the ATR is will also depend on the goals you set for yourself and how you trade. The indicator is unlikely to be very useful for investors. But traders and scalpers can include it in their trading strategies.

In short, ATR is an indicator that shows the volatility of a particular cryptocurrency. It reflects the trend in price change, but does not indicate the direction of movement. Trading using only ATR will not work: it must be used in combination with other indicators.

This material and the information in it does not constitute individual or other investment advice. The opinion of the editors may not coincide with the opinions of the author, analytical portals and experts.