ATR indicator does not provide an indication of price direction or duration, simply the degree of price movement or volatility. As with most of his indicators, Wilder designed ATR with commodities and daily prices in mind. In 1978, commodities were frequently more volatile than stocks. They were (and still are) often subject to gaps and limit moves. In order to accurately reflect the volatility associated with commodities, Wilder sought to account for gaps, limit moves, and small high-low ranges in his calculations. A volatility formula based on only the high-low range would fail to capture the actual volatility created by the gap or limit move. True Range is the greatest of the following three values: difference between the current maximum and minimum (high and low). difference between the previous closing price and the current maximum. difference between the previous closing price and the current minimum. If the current high-low range is large, chances are it will be used as the True Range. If the current high-low range is small, it is likely that one of the other two methods would be used to calculate the True Range. The last two possibilities usually arise when the previous close is greater than the current high (signaling a potential gap down or limit move) or the previous close is lower than the current low (signaling a potential gap up or limit move). To ensure positive numbers, absolute values were applied to differences. The example shows three potential situations when the TR would not be based on the current high/low range. Notice that all three examples have small high/low ranges and two examples show a significant gap. 1. A small high/low range formed after a gap up. The TR was found by calculating the absolute value of the difference between the current high and the previous close. 2. A small high/low range formed after a gap down. The TR was found by calculating the absolute value of the difference between the current low and the previous close. 3. Even though the current close is within the previous high/low range, the current high/low range is quite small. In fact, it is smaller than the absolute value of the difference between the current high and the previous close, which is used to value the TR
Chart Analysis
