True Range Indicator is an indicator that measures volatility. J. Welles Wilder developed this indicator. His most famous classic trading book is “New Concepts in Technical Trading Systems“. The developer, Wells Wilder believed that most trading systems were broken down into two basic components. The first part of this book focuses on the “technical trading system”. The other part is on money management or in his words “capital management technique”.
What is the True Range Indicator?
Wilder, the developer of the indicator, included the price comparisons among the subsequent bars in order to account for gaps in his range calculation. The raw True Range Indicator is then smoothed (a 14-period smoothing is common) to give an ATR or Average True Range. The True Range can be smoothed by using a variety of MA (moving average) types. This includes Simple, Exponential, Welles Wilder, etc.
Difference Between Average True Range (ATR) and True Range (TR)
Though ATR (Average True Range) and TR (True Range) sound similar, there are basic differences between the two. The Average True Range takes the average of the true range of price bars. And, True range takes into account the previous price bar information in its calculation when price gaps are involved.
How to Calculate the True Range?
J. Welles Wilder defined volatility as the maximum range that the price moved off this indicator. The developer described the price movement as the true range. We can calculate this either during the day or from prior days close to the extreme point reached during the day. The true range indicator calculation parameters are:
- Today’s high to today’s low.
- Yesterday’s close to today’s high.
- Yesterday’s close to today’s low.
- The day’s trading range is simply high − low.
How to Attach the True Range Indicator to a Chart?
On Zerodha Kite
Traders can learn more about the True Range in the STUDIES section of Zerodha Kite. It is also included in the Kite Mobile App. We can use the indicator on any chart like daily, weekly, monthly, or intraday. You can check the image below to understand how to attach the indicator to the HDFC Bank share price chart.
On Upstox Pro
You can also add the indicator on the Upstox Pro platform. Here, I added the indicator on the indicator searching tab. Then click on apply. After clicking on apply, it will appear below the price chart.
Characteristics of the True Range Indicator
- This indicator’s formula extends its calculation to include the prior day’s closing price.
- The True Range Indicator does not need to be an average figure. Rather it looks at the maximum of three potential ranges on a given day and determines volatility based on that.
- In this indicator, many traders typically use 14 or 7 periods to calculate.
- But, in Wilder’s original Volatility system, he used 7 periods. Furthermore, as with most indicators, traders are encouraged to test which period works best to fit this style of trading.
- The true range indicator reflects absolute changes in volatility.
Important Points to Remember
There are only three numbers traders need to know for determining the true range:
- Previous bar close (C.1).
- Current bar’s high (H).
- Current bar’s low (L).
True Range is simply the greatest distance traders can find between any two of these three prices. It is the greatest of the absolute values of the three differences between the three prices including –
- High minus low.
- High minus previous close.
- Previous close minus low.
Trading Strategies of the True Range Indicator
True Range is an absolute number. It is more important to know what was the previous period’s reading as opposed to the current reading.
Detecting Range or Breakout
Long-term low readings for the indicator suggest that the stock was range bound. An increasing value of the indicator alerts traders that a stock’s trading activity is increasing and becoming more volatile.
A True Range indicator is based on the premise that if a stock moves a certain percentage from a current price level (a breakout), the odds favor a continuation in the direction of the move. Traders can also interpret this as the beginning of a new trend.
When there is less activity in buying and selling, the True Range will be flat.
Trading the Divergence
The next example I am going to show you is divergence. We know that divergence comes when the price and indicator movement doesn’t match. Just like here, the price made lower lows while the indicator made highs. Later the price follows the indicator and went high.
Welles Wilder developed the True Range indicator, a technical tool to measure volatility and identify possible trading opportunities. It measures both the high-low range and gaps between price bars relative to the previous day’s close.
The basic interpretation of true range in technical analysis is that prices move more when the true range value is higher, and consolidate or trend less when it’s lower. Momentum traders often look for strong movements that begin on increased true ranges as potential entry signals into trades. As with all indicators, it fluctuates around a mean level which traders can use as an indication of buy/sell conditions in momentum strategies.
Generally speaking, most investors prefer longer time frames such as daily or weekly charts because they provide a clearer view of market direction than shorter ones such as intraday or hourly charts. When using any indicator, however, we should consider a variety of time frames depending on risk tolerance and style of trading employed by each investor; some may find short-term strategies viable while others might focus only on long-term trends that manifest themselves over longer windows such as monthly data points.
In order to utilize the True Range in the most efficient way, the first thing a trader needs to understand is what the ATR and True Range indicators are. ATR is not a directional indicator like the –DI and +DI indicator. The strength of this indicator is in identifying if a breakout in stock is generating any real interest or not. The developer of the True Range indicator believed that we can spot increases in volatility before strong moves in the stock. Also, false breakouts would be usually followed by traders with relatively narrow ranges.