Determining the trading range of a currency pair

Determining the trading range of a currency pair

Understanding how much a currency pair moves on a daily basis is important for a variety of reasons including the usage of stop losses and finding reasonable price targets, among others.

 

Not all forex pairs move the same. Some of them are highly volatile, moving at least 100 pips per day while others are timid, only moving in small ranges of 30-40 pips unless unexpected or major market news are in play.

 

One of the easiest way of determining the daily average range is by using the ATR indicator which stands for Average True Range. The ATR uses a period-specific smoothed moving average to highlight the degree of price volatility. The ATR is rather universal, used by many to better understand what to expect from a certain currency pair or instrument.

 

Let’s look at an example on the EUR/USD (Figure 1)

 

Figure 1

 

The 14 period ATR on the daily chart is just under 50, suggesting a daily range of about 50 pips. You can see that this is lower than the range over the past few months with June seeing as high as 70s and March approaching 80 pips on a daily basis.

 

Let’s look at another example that uses a higher period, better suited for long term trading. In this case (Figure 2) the ATR is set to 35:

 

Figure 2

 

We notice a similar range with the current ATR just above 50 pips. This tells us that the EUR/USD is relatively stable and not exhibiting extreme volatility or trading ranges. The 35 period was a relative one and does not necessarily reflect long term.

 

Another important factor to look for is the decrease in volatility which is usually associated with a sudden and rather large move towards the upside or downside. Furthermore, it would, at some point, indicate the return of volatility which could be pleasant news for volatility seekers.

 

Understanding the ATR of an instrument is important especially for short term traders as they will place their stops and targets accordingly. This does not necessarily mean that a stop that is smaller than the ATR will get hit but it would tell traders to be careful as large whipsaw and volatile conditions could mean erratic movements and more stop losses being taken out.

 

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