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Trading Primer: ARE YOU TRADING STOPLESS - A TUTORIAL ON ATR

|Includes:Las Vegas Sands Corp. (LVS)

THE BEST TRADERS HAVE NO EGO'S…If you are trading stopless it means you are trading WITH an ego.

Average True Range (NYSE:ATR) is a volatility based stop. ATR is does not predict direction or duration of a move, it simply measures the normal price movement of the stock within a given time period. It is important to know what the normal price movement is because if you don't, then you won't know when it is acting abnormally and it is the abnormal conditions that I like to capitalize upon. It is my opinion that ATR is best utilized in a longer term hold, however it can be applied to any timeframe including intraday. Up-trending stocks should have widening ATR's. A decreasing ATR would indicate interest is waning in a stock.

Using an ATR stop allows me to remove my emotions from the trade. It is a scientific calculation so not subject to different interpretations. It is what it is. If my trade goes against me I already know where I will get out, and it will happen automatically, so I am able to make my trading decisions in a calm cool and collected manner not during the heat of the trading day. I know my max loss going in…my risk is well defined. THE MOST COMMON TRAIT OF SUCCESSFUL TRADERS IS THAT THEY LIMIT THEIR LOSSES. Want to be a successful trader? Do what they do. Successful traders do not take big losses and they do not question their stop losses. Once I set a hard stop I do not monkey with it during the day. The trade either works or it doesn't and if I am wrong I can always get back in.

The average true range is the (moving) average of the true range for a given period. The true range is the greatest of the following:

• The difference between the current high and the current low
• The difference between the current high and the previous close
• The difference between the current low and the previous close

The average true range is then calculated by taking an average of the true ranges over a set number of previous periods. Most people use 14 periods as it gives an adequate range to calculate upon. (ATR calculations above are from Metastock).

Stockcharts calculates ATR's automatically for me:
Click to enlarge


Normally ATR is calculated from your entry price, however, since ATR changes daily I like to use it to help me judiciously move my stops up with my profits. When I run my charts premarket, I double check the ATR and then adjust my stops accordingly. It can take the randomness out of “where do I set my stop and why”. Of course this is but one tool in my bag, and I always make sure ATR doesn't fall smack on a moving average, or that it's at a big round number. Those just beckon to be hit during the day.

In my chart example please note that I am using a smaller multiple for a smaller priced stock. If I were trading an IBM or a GOOG I would use a larger multiple of 2X ATR as I'm only looking to exit positions if they start trading at extremes. If I were doing a shorter term trade I would simply use a number slightly below the ATR itself to give it some wiggle room and not weight it with a multiple. I NEVER move a stop down, always UP.

Suz

Vintage Suz from the archives of StockMarketMentor.com
2009

Stocks: LVS