How to Create an ATR Volatility Filter

hey Traders welcome back to another
video thanks for coming back to the
channel if you're new uh welcome in
today's video I'm going to be answering
a question from a student in the
pinescript Mastery course ah it's a
question slash suggestion and the
question basically is uh this Trader
wants to develop a indicator that gauges
relative volatility or momentum and so
I've written out a script here this
script you see down here looks like a
volume indicator but it's actually
calculating all of its values based on
the average true range and so when these
bars turn blue or aqua colored whatever
this color is that means that volatility
is picked up in the markets now
volatility doesn't discriminate between
bullish or bearish it just means candles
have gotten larger doesn't mean that
momentum is picking up to the upside in
this case it meant that but there was
also this candle here which counts as a
high volatility candle and this was a
bearish candle uh it closed bullish like
a pin bar candle but the swing in this
candle is quite wild and so volatility
doesn't necessarily indicate strong
momentum but it can mean that and so
what this other indicator here you see
is is my ultimate pullback indicator now
the ultimate pullback indicator or UPI
is a script that I wrote a few years ago
now that I use to trade the Forex and
crypto markets primarily it does work on
other markets but those are the two
markets it was specifically designed to
trade now this indicator is a
proprietary indicator I don't have the
source code public you can access it
through my indicators and strategies
course but for today's example we don't
need to worry about that all we're
worrying about is aligning strong
momentum or pickup and volatility with
buying pullbacks in a trend continuation
strategy and the student wants to
combine this sort of indicator with the
UPI to identify higher quality higher
conviction signals trading this trend
continuation system so this trend
continuation system doesn't necessarily
require strong momentum to the upside to
win trades but that does definitely help
when you're Trading and continuation
system having the wind at your back
having momentum picking up in the
direction of your trade is obviously
helpful if you're trading a
consolidation based system you probably
don't want momentum to pick up but
anyway for today's example what we've
what I've done here is create a script
that meets this students sort of
requirements and if I turn off this
indicator and turn this one on this
indicator here is my UPI with the
default settings and if I bring it to
front here you'll notice that its win
rate is only 52 percent it's trading a
one-to-one risk reward profile and so we
have a 25 return and a 23 Max drawdown
over the past 491 trades this version of
the script is taking every signal on my
chart so here's a losing trade example
you'll notice that this trade was taken
while volatility was low while the ATR
was Contracting now this looks like a
volume indicator but these columns are
actually the ATR value so this blue line
here is a long-term ETR being plotted
onto my art and these columns is a
short-term ATR being plotted onto my
chart so it looks like a volume
indicator but it's actually a ATR based
volatility indicator and what this other
version of the script is doing is taking
the same exact signals except it's only
taking them when these bars are blue or
volatility has picked up and you can see
the difference here is pretty massive
we've got now a 57 win rate instead of
52 and our Max drawdown is now 8 and our
return is 36 percent now I did cherry
pick this example the results were not
as spectacular on other markets or other
time frames but this just goes to show
that with a bit of creative thinking
there is potential in some of these
filters that you can develop in this
case we're developing a volatility
filter and so before we continue let me
break down the question from the student
and we'll move over to the Pine editor
and start coding out this script so the
question is
I was thinking that it would be nice to
have an indicator a histogram or a
ribbon of bars to complement the UPI
ultimate pullback strategy and this
indicator will measure the sum of the
last X number of bars the student wants
to add up the range of these candles and
then compare that range the sum of that
range to the recent ATR value and if
that range is less than the ATR value
then that would typically mean that the
uh the price is in consolidation doesn't
always mean that but it can mean that
and it often does especially after we've
had a period of time where the ATR was
significantly above average if that ATR
begins to shrink that typically means
that price is consolidating after an
impulsive move and so the student wants
an indicator that will print a dull
color on the histogram suggesting that
it is not a good time to trade and if
the sum is equal to or larger than the
ATR it will print a brighter color like
blue suggesting that it is a good time
to trade now when the student says it is
a good time to trade they mean in the
context of trading a pullback system at
continuation system in this case the UPI
and then they also mentioned my volume
my oval relative volume indicate a
lesson in the Mastery course and they
tried to adapt that script to suit their
purposes but they did not succeed so in
today's lesson I'm going to show you
guys how I went about this so this is
the lesson they're talking about the
aval lesson and in this lesson I do
exactly what they mentioned in that
question except instead of using
volatility or the ATR value to calculate
these spikes in volatility I used
relative volume so these colored bars
down here are comparing the volume of
the current bar to a moving average of
the past in this case I'm guessing 100
bars that would be this lower moving
average and then we apply a threshold in
this case 2.5 so if a bar prints 2.5
times the 100 period moving average of
volume that's considered a spike in
relative volume and that's what these
colored bars are doing so in today's
video we are going to be doing this
exact same thing but with the ATR value
instead of volume now the first thing to
note is that there's a problem with this
theory of um comparing recent price
action to the ATR value this way the
problem is if we're adding up and
getting the sum of the past four bars
and we're including negative numbers so
counting a red bar of two Pips is
negative two and we try to compare that
to the ATR it's not going to work
because the ATR is always a positive
number so what we need to do instead is
compare the true range of each bar to
the ATR it's almost the same thing but a
slight difference if we don't do this
then what we'll be doing instead if we
do it this way is we'll be gauging
bullish and bearish momentum instead of
just general momentum now there's a time
and place for that you might want to do
that with your script but in this
student's example this is not what they
really want to happen we just want to
get a gauge of volatility we don't care
if it's bullish or bearish because
comparing a non-absolute atrial value or
a negative number to a positive number
we'll only give an indication of the
strength of bullish and bearish
volatility not relative volatility so in
this case we need to compare apples to
apples not apples to oranges so that
means comparing the true range of recent
bars to a longer term ATR value so in
other words what I think the best way to
achieve this is to Simply compare a
short-term ETR indicator value to a
longer term ATR indicator value and if
the short term ATR value is larger than
the long-term value then that means we
have strong volatility relative to
recent volatility regardless of whether
that volatility is bullet or bearish so
let's jump into the pine editor and I'll
show you what I mean so before we
continue I should break down the formula
for calculating the ATR because it's
important to know so the ATR the true
range is a moving average of each bar on
our charts true range and the way we
calculate a candle's true range is not
simply just subtracting the high from
the low that will usually be its true
range but there's two other values that
are taken in into consideration and so
what we're doing is we're getting the
maximum value out of these three
different values the first is the high
minus the low and because we're
subtracting the high from the low this
will always be a positive number and so
that means the next two values also need
to be positive numbers and so that's why
we use the ABS function the ABS function
doesn't mean that we have a six pack it
means that we are comparing an absolute
value a positive number to a positive
number and so the next value we check is
the current bars High minus the previous
Bar's closing price and then finally we
also compare the current bars low to the
previous Bar's closing price whichever
of these three values is the maximum
value is our true range for that bar and
so that's why if we just simply add up
the past five bars and we get a and uh
in this example we would have a negative
number and comparing that to the ATR
will not give us the information we need
or want in this particular context so
what I'm going to do instead is compare
a short-term age here to the long-term
ATR and that should give us a pretty
sound indication on recent volatility
there are other methods for doing this
which we may cover in future lessons we
could compare the rate of change we
could compare standard deviations from
Bollinger Bands things like that but for
today's example we're just going to
compare the raw ATR values so to do that
what I need to do first is get some user
input and I'm going to get three values
here the first one is going to be our
short term length and that will be set
to input dot integer I'll give it a
title of short term ATR length
and a default value of five I can copy
this paste it then we're also going to
be getting a long term ATR which will be
14 by default these are the values I'm
going to start working with the final
input I'm going to get is an R Vol
threshold a relative volume threshold
and this is going to be a float input
and I'll just call it our vault
threshold and the default value for this
is just going to be one and I'll explain
what this does once we have our code
written so now that we have our user
inputs the next thing we need to do is
get our indicator values
in this case we need two ATR values so
atr1 is going to be set to ta.atr and
we'll pass in our first length input
and then the second ATR value requires a
second length input now we just need to
Simply compare these two inputs to each
other so here I'll just say generate our
Vol alert
slash signal and I'll create a new
variable here called R volt alert equals
and then we're going to check if the
short-term ATR value atr1 is greater
than atr2 but I'm also going to multiply
atr2 by our rival threshold so by
default this will just be one so one
times the 14 period ATR but we can
change that in the settings menu if we
want to detect higher volatility candles
so the next thing I'm going to do is get
our
um volatility color
and that will be set too do we have an
rival alert if so we want to set the
color.color.aqua otherwise if we do not
have an arvel alert we need to set this
to a dull color that's what the student
wanted the script to do now in the
example I showed at the beginning of
this video I actually changed the color
based on the candle whether it was
bullish or bearish so my code originally
looked like this
if the close is above the open we set
the bar to Green otherwise we set it to
Red now because we're not necessarily
analyzing the bars themselves we can
just set this to color.gray and keep the
script a bit simpler so I'll do that for
now the final thing we need to do here
well almost the final thing the final
thing would be to generate alerts but
before we do that we need to draw the
data to the Chart so I'm going to use
three plot functions here the first one
is going to just plot the short-term APR
value so I'll title this plot short term
ATR
but I'm going to style this plot as a
column I think it makes this indicator a
bit more intuitive to read so I need to
set the style to plot dot style
underscore columns and I'll set the
color to our Vol color variable this guy
here the next plot is going to be our
longer term ATR value so I'll title this
long term ATR
the style is just going to be a regular
plot so we don't need to specify the
style but we do need to give it a color
I'll set the color in this case the
color.black the final plot we're going
to draw here is the ATR the long-term
ATR multiplied by our aval threshold
and I'll title this uh ball threshold
and I'll give this one a color of color
dot blue and get rid of this plot n a
and now I can get rid of this and when I
save my script we should be getting our
volatility indicator plotting onto the
chart and as I mentioned at the
beginning of this lesson what this
script is doing is These Bars here is
actually the short-term ATR value so the
five period ATR value being compared to
our blue line which is just a regular 14
period ATR value and whenever the
short-term ETR is greater than the
long-term ATR we have volatility picking
up and we can obviously tweak these
values here if we want to I could set
that to three in this 220 and we'll get
a more sensitive volatility detector or
I could set this to 14 and this to 100
and now we're getting a more sustained
longer term indication of relative
volatility and the final thing before I
wrap up this script is let's generate
alerts so for this I'm just going to use
the old school alert condition function
and the condition for this alert is just
going to be our oval alert Boolean value
the title is going to be our alert and
the message will be momentum has
increased on
and then I'll pass in the ticker
placeholder this will be replaced with
whatever Market we're on in this case
euro dollar save my code and now if we
come up to the alert box and I select my
script I can select the oval alert set
up my alert settings how I want the next
time the chart prints a candle that has
greater volatility than the recent
longer term volatility I'll get an alert
sent to my phone or whatever and that's
pretty much it for this script it
doesn't do exactly what the student was
trying to do but I think in my personal
opinion as a Trader encoder this I think
is a better way to do the same thing now
there's ways we could improve this
indicator we could add Confluence to it
we could check rate of change values we
could check volume as well we could
incorporate volume if volume is elevated
as well as volatility that's often an
indication of an impending reversal most
of the time but in this case we want to
combine this with the UPI and if I set
this back to its default values it would
mean that we only take trades that the
system generates when volatility is
elevated so we would not take this
losing trade because volatility was
Contracting
or in other words price was
consolidating and if I keep going back
here this warning label here just means
that this trade hit its take profit and
its stop loss on the same bar so if I
zoom in you can see that we entered long
on the on this bar is open and then this
Wick hit our stop loss but the bar also
hit our take profit now in this case I
would assume the price hit our stop loss
and then went up to hit our take profit
so this was a losing trade but you never
really know it's possible this opened
came up hit our take profit came back
down
we were already out of our trade or our
stop-loss was a break even if we were
trading two positions which is typically
how I trade this strategy
um and this would have been a winning
trade or a one target winning trade the
only way to know for sure would be to
drop down to a lower time frame and see
how this bar unfolded but that's outside
the scope of today's lesson I just
wanted to point that out in case you're
wondering what this giant yellow warning
label is but if we go back here
's another trade we wouldn't take this
trade happened to win but it occurred
during Contracting volatility
same with this trade so you are going to
give up winning trades or that's always
the case whenever you introduce a filter
to a system it's also going to eliminate
winning trades that's just the nature of
the game but as we saw at the start of
the lesson when I compared this
indicator's default settings to this
version of the indicator which has
exactly the same settings except I copy
and pasted this code here into the
source code of the original EPI and all
I did was add one more check to our
Market condition filters that checks if
volatility is elevated and to show you
that that was the case to be fully
transparent let's copy this code I'll
just paste it into a notepad then I'll
delete this test indicator off my chart
open up the source code to the UPI and
then copy all of this code it's about
800 lines of code create a new indicator
save this and I'll just call this our
volt test I'll add
arvol to the end of
my indicator label save that code add it
to my chart hide the original script it
does take a moment to compile because
it's such a large script but it should
be done soon there we go now if we come
into the settings menu and I turn on the
drawback tester results
uh we'll have our back test results
being drawn down here and our trade win
metrics win rate metrics and so on the
stats of the of the system and now if I
hide both scripts you can see the return
metrics are identical because they are
exactly the same script code but now if
I open up the source code to the script
we just created and I copy just this
code this is all we need just need our
user inputs our indicator values and
then to compare that indicator value to
our rival threshold if I come up to the
Rival script and I scroll down to where
the script detects market conditions
which is here
if I paste this in and I simply add this
check here so we only have a valid long
entry of all of these conditions and met
and there's a lot of them
so if our rival alert condition that we
just created if this bar is blue or aqua
and I'll add it to the short trades as
well that's literally the only changes
I've made to the script now when I save
our code watch our win rate metrics and
our simulated back testing return
metrics bam
we have significantly changed the
metrics of this strategy we've reduced
our trade quantity quite a bit more than
half I believe we had nearly 500 trades
with this version so we've halved our
trade frequency which means we've halved
our commission costs we've also halved
our drawdown over halved I think the
drawdown was 25
23 so we've significantly reduced our
drawdown we've modestly increased our
return so we had a 25 return we have an
extra 10 or 11 with this version of the
script and we achieve this jump in
performance simply by introducing a new
filter to the system that only takes
trades when volatility is increase and
the filter couldn't be more simple I
mean we're just comparing a short-term
ATR value to a long-term ATR value we
could do that manually all we'd need to
do is add two average true range
indicators to our chart I can merge
these together set one of them to five
and one of them to 14 and I need to
merge the scales to the right
there we go and basically the script is
doing exactly what this script is doing
uh whenever this red line is above the
Blue Line uh we aren't permitted to take
trades all we've done is pretty it up a
little bit make it look a little more
interesting a little bit more intuitive
but anyway that will do it for today's
lesson I hope you found this interesting
as always the source code will be below
uh the source code to the ultimate
pullback indicator will not be below
because I've spent hundreds and hundreds
of hours working on that script so
that's a private script unfortunately
you can get the source code for that
script on my website in my strategies
and indicators course it's not a cheap
course because it includes the source
code to every script I've ever created
including detailed lessons breaking down
the code so I put a lot of work into
that lots of hours were sunk into that
but if you can't afford that or you're
not interested in that course I do have
a public indicator called the aggressive
pullback indicator
which is what the UPI was originally
based on and the source code to this
indicator is actually public uh it's not
public on trading view but it is up on
my blog so I'll leave a link to my blog
below and this is a very very simplified
version the original incarnation of the
ultimate pullback indicator so if you're
curious about how to create a script
that detects simple pullbacks above or
below a moving average using moving
average as a trend filter go and check
this script out there'll be a link in
the video description and in the pinned
comment below and with all that out of
the way I wish you the absolute best
with your trading have a fantastic
weekend if you're watching this when
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marketing no BS just pure value for you
guys so go and check that out if you're
interested if you want to learn Pine
script obviously you can check out my
courses there at pinescriptmastery.com
we have the free basis course as well so
plenty of free stuff out there to sink
your teeth into if you're a beginner or
you can't currently afford the courses
or you're just not interested at least
go and check out the free stuff there's
tons of it out there hours and hours and
hours of free content on my website my
blog my podcast you know I get pretty
bored I'm trading I trade the daily
chart these days uh primarily I do
discretionary trade and trade some
shorter term systems but the bulk of my
trading now is done on the daily time
frame so I have a lot of free time
between bar closes so I I tend to pump
out a lot of content so go and check
that out I'll speak with you in the next
video take care I love you thank you for
being here and I'll speak with you soon
goodbye