Volatility Ratio

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Volatility Ratio

Key takeaways

  • The volatility ratio (VR) compares a single period’s true range to its recent average true range to highlight changes in price volatility.
  • VR > 1 indicates the current period’s price range is larger than average; VR < 1 indicates it is smaller.
  • Traders use VR to detect unusually large or small intraday moves and to help confirm breakouts or regime changes when combined with other indicators.

What it measures

The volatility ratio quantifies how volatile a security is today relative to its recent behavior. It is a volatility-focused technical indicator that builds on Welles Wilder’s True Range (TR) and the Average True Range (ATR). By showing whether today’s price movement is unusually large or small, VR can signal potential breakouts, trend changes, or market disturbances.

How to calculate

  1. Calculate True Range (TR) for the current period:
    TR = max(
  2. High − Low,
  3. abs(High − Previous Close),

  4. abs(Low − Previous Close)
    )

  5. Compute ATR = average of TR over N periods (commonly 14). ATR can be a simple moving average or an exponential moving average of TR.

  6. Volatility Ratio:
    VR = TR / ATR

Common interpretations:
* VR > 1: current range exceeds the recent average range (higher-than-normal volatility).
* VR ≈ 1: current range is about average.
* VR < 1: current range is below average (lower-than-normal volatility).

Common variations

  • VR = |TR| / ATR — emphasizes absolute magnitude when directional sign is not relevant.
  • VR = TR / EMA(TR, N) — uses an exponential moving average of TR instead of a simple average for the denominator.
  • Some implementations smooth VR itself or plot it alongside other volatility bands.

Trading signals and use cases

  • Breakout detection: A rising VR that accompanies price moving beyond resistance or support can strengthen the breakout signal.
  • Trend validation: Large VR readings following a directional move suggest conviction; small VR readings during a move may indicate a lack of follow-through.
  • Volatility spikes: Sudden high VR values may reflect news, earnings, or other catalysts; these can precede sustained trends or quick reversals.
  • Risk management: Monitoring VR helps size positions and set stops when volatility deviates from the norm.

Traders generally use VR in conjunction with price action, volume, and other indicators (e.g., moving averages, momentum oscillators) to avoid false signals.

Practical tips and limitations

  • Choose an appropriate lookback N (14 is common) based on the asset and timeframe. Shorter N reacts faster but is noisier; longer N is smoother but slower.
  • VR is a relative measure — it does not indicate direction, only the magnitude of movement relative to recent history.
  • High VR alone does not specify trend direction; combine with trend or momentum indicators for directional bias.
  • During thinly traded assets or off-hours trading, TR and VR can produce misleading spikes; interpret with market context.

Summary

The volatility ratio is a simple, practical tool to quantify how today’s price movement compares to recent volatility. It helps identify unusual price action and can improve timing and confirmation when paired with other technical analysis tools.