Volatility Stop Indicator | Indicator Series

Introduction to the Volatility Stop Indicator

Visually, the Volatility Stop Indicator looks like a series of dots under your price bars during uptrends–almost like the dots are supporting the price from underneath–and over your price bars during downtrends–weighing on the price from above. The purpose of the Volatility Stop Indicator is to show precisely where on the chart (and when in time) one price trend ends and the next begins.  (Try out indicators on Tradingview.com

Of course, where (and when) one trend ends and the next begins depends on how far you’ve zoomed into your chart. Try this:

  1. Enable the Volatility Stop Indicator.
  2. Click the “1Y” button so that your chart shows price bars for the last year. 
  3. Notice how many days, weeks, or months the stock’s different trends have lasted over the past year, according to where the Volatility Stop Indicator’s dots show up.
  4. Click the “1M” button so that your chart shows price bars for only the past month.
  5. Notice how, now that you’ve zoomed in this far, the Volatility Stop Indicator shows many more, shorter trends than it did in the 1-year view.

Why We Use It

We use a Volatility Stop Indicator because an average true range (“ATR”) indicator would be too sensitive and make us exit our positions prematurely. 

The ATR is data about the price of the underlying security. The Volatility Stop Indicator shows us contextual data about the ATR–metadata–to prevent us from misinterpreting it. Try enabling both indicators at once and finding the frequent differences between where their respective plots show up. 

Pro tip: The differences become extra apparent when you change your volatility stop’s display style to “area”. Now you can see, in stark contrast, all the times when an ATR indicator alone might have fooled a trader into thinking a particular trend was reversing, when in fact these were just moments of market noise. 

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History

J. Welles Wilder invented both the average true range and the Volatility Stop Indicator and discussed both in his 1978 book, New Concepts in Technical Trading Systems. Wilder’s writings–especially New Concepts–are canonical for technical traders. In addition to the ATR and Volatility Stop Indicator, New Concepts discusses other now-ubiquitous technical indicators of Wilder’s invention, including the relative strength index.

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