ATR indicator explained: stop losses for forex and gold

One of the most common reasons a sound trade idea loses money is a stop loss that ignores how much the market normally moves. A stop of 15 pips can be generous on a quiet pair during the Asian session and far too tight on gold an hour before a big US release. The Average True Range, usually shortened to ATR, is a simple indicator that measures that normal movement for you. This guide explains what ATR is, how it is calculated, how to read it and how to use it to set stops and size positions on currency pairs and gold.

What the ATR indicator measures

ATR measures volatility, meaning how far price typically travels in one candle on the timeframe you are looking at. It was introduced by J. Welles Wilder Jr. in his 1978 book New Concepts in Technical Trading Systems, the same book that introduced the RSI. Wilder originally designed it for commodities, where prices often gapped between sessions, which is why the calculation takes gaps into account.

Two points matter more than anything else:

• ATR has no direction. It does not tell you whether price will rise or fall. A rising ATR only means candles are getting larger, whether the market is rallying, falling or swinging both ways.
• ATR is measured in price units. On EUR/USD it is shown in price terms such as 0.0012, which is 12 pips. On gold it is shown in dollars, such as 8.50. That makes it directly useful for placing stops.

How true range is calculated

The building block is the true range of each candle. It is the largest of these three numbers:

1. The current high minus the current low.
2. The distance between the current high and the previous close.
3. The distance between the current low and the previous close.

Distances are always counted as positive numbers. In a normal candle the first value is the largest, so true range is simply the candle's range. The other two only matter when price opens away from the previous close, for example after a weekend gap or a sharp move on news. Including them means a gap counts as movement, which is what you want when judging risk.

ATR is then an average of the true range over a set number of candles. The standard setting is 14. Wilder used a smoothed average: each new ATR value equals the previous ATR multiplied by 13, plus the latest true range, all divided by 14. Most charting platforms apply this method by default, so you rarely need to calculate it yourself. It is still worth knowing how it works, because it explains why ATR reacts gradually rather than jumping on a single large candle.

A simple worked example

The figures below are example numbers chosen to show the method, not live market data. Suppose EUR/USD closed yesterday at 1.0850. Today it opened lower after news, reached a high of 1.0842 and a low of 1.0790.

• High minus low: 1.0842 minus 1.0790 is 0.0052, or 52 pips.
• High against previous close: the distance between 1.0842 and 1.0850 is 8 pips.
• Low against previous close: the distance between 1.0790 and 1.0850 is 60 pips.

The true range is 60 pips, not 52, because the gap below yesterday's close was part of the move. If the 14 period ATR before today was 50 pips, the new value would be (50 times 13 plus 60) divided by 14, or roughly 50.7 pips. One unusual day nudges the average up rather than doubling it.

How to read ATR on your chart

ATR is shown in a separate panel below the price chart as a single line. Read it in three ways:

• Its level. The current value tells you the typical candle size on that timeframe right now. An hourly ATR of 10 pips on EUR/USD means the average hourly candle has covered about 10 pips recently.
• Its direction. A rising line means volatility is expanding. A falling line means the market is calming down. Volatility often contracts before a breakout and expands after it, which links ATR closely to support and resistance levels that are about to break or hold.
• Its timeframe. ATR on a daily chart and ATR on a 15 minute chart describe very different things. Always read ATR on the timeframe you use for your entries and stops.

ATR also changes with the session. The same pair can show a much higher hourly ATR during the London and New York overlap than during Asian hours, and gold usually becomes more active once London and then New York open.

Using ATR to set a stop loss

The most practical use of ATR is placing a stop that sits outside normal noise. Instead of a fixed number of pips, you set the stop at a multiple of ATR away from your entry. Common multiples range from 1 to 3 times ATR, and many traders start around 1.5 to 2.

• A smaller multiple, around 1 times ATR, keeps losses small per trade but is hit more often by ordinary movement.
• A larger multiple, around 2 to 3 times ATR, gives the trade more room but means a larger loss when the idea is wrong, so the position has to be smaller.

ATR works best combined with structure rather than on its own. A sensible approach is to find the level that would prove the trade wrong, such as a recent swing low for a buy, then add a buffer of a fraction of ATR beyond it so a brief spike through the level does not close you out. If the resulting stop is many times larger than ATR, the setup may simply be too far from its invalidation point to be worth taking.

ATR is also used to trail stops. A trailing stop placed a fixed multiple of ATR behind price widens automatically when the market becomes more volatile and tightens when it calms. Our guide to trailing stops and breakeven covers when moving a stop helps and when it simply cuts good trades short.

ATR and position size

A wider stop is only safe if the position is smaller. The rule is the same whether you use ATR or not: decide how much of the account you will risk, measure the stop distance, then work out the size. ATR simply gives you a more honest stop distance to plug in.

Again with example numbers: on a 5,000 dollar account risking 1 percent, the risk per trade is 50 dollars. If hourly ATR on EUR/USD is 12 pips and you use a 1.5 times ATR stop, the stop is 18 pips. With a pip worth about 10 dollars per standard lot on a dollar account, 50 divided by 18 is about 2.78 dollars per pip, which is roughly 0.27 lots. If volatility doubles and ATR rises to 24 pips, the same rule gives a 36 pip stop and about half the position size. The money at risk stays at 50 dollars either way.

That is the real value of ATR: it keeps your risk steady while the market's mood changes. For the full sizing method, see lot size calculation explained, or use the free lot size calculator to check the numbers.

ATR on gold (XAUUSD)

Gold is where ATR earns its place. It often moves several dollars in an hour and can travel much further around US inflation, jobs and Federal Reserve events. A stop that feels wide in dollars may still be inside gold's normal hourly range.

As an example, suppose hourly ATR on XAUUSD is 8 dollars and you use a 1.5 times ATR stop, giving 12 dollars. With a common contract size of 100 ounces per standard lot, a 1 dollar move is worth about 100 dollars per lot, so a 12 dollar stop costs about 1,200 dollars per standard lot. To risk 50 dollars you would trade about 0.04 lots. Contract sizes differ between brokers, so always confirm what one lot of gold means on your own platform before using these numbers.

Common mistakes with ATR

1. Treating ATR as a signal. A high ATR is not a reason to buy or sell. It only describes how much the market is moving.
2. Mixing timeframes. Using daily ATR to set a stop on a 5 minute entry gives a stop that is far too wide for the setup.
3. Forgetting the calendar. ATR is built from past candles. Before a major release, the next hour can move far more than the recent average suggests.
4. Widening the stop without cutting the size. A bigger stop with the same lot size quietly increases the risk on the trade.
5. Ignoring the spread. On quiet pairs and in thin hours, the spread can be a meaningful share of ATR. Leave room for it.

A quick ATR checklist before a trade

• Add ATR with the default 14 period setting on the timeframe you trade.
• Note the current value and whether it is rising or falling.
• Find the level that would prove the idea wrong, then add a buffer based on ATR.
• Check that the stop is a reasonable multiple of ATR, usually between 1 and 3.
• Size the position from the stop distance and your fixed risk per trade.
• Check the calendar for releases that could make the next few candles much larger than usual.

Using ATR with trade signals

If you follow signals, ATR is a useful cross check rather than a replacement for the plan. Forexuro signals give an entry, a stop loss and three targets, and every closed trade is listed in the public trade history, losses included. Comparing the published stop distance with the current ATR on your chart shows you how much room the trade has relative to normal movement, and it reminds you to size the position from that stop rather than from habit.

Frequently asked questions

Keep reading

Lot size calculation explained · Trailing stops and breakeven · Position sizing for gold