Is ATR a Good Measure of Options Premium?

Sean McLaughlin
December 16, 2022

An All Star Options community member recently sent me an email asking about the Average True Range (ATR) indicator and whether or not it is helpful in ascertaining if options premiums are elevated or depressed in the underlying instrument. 

For a pretty thorough explanation of what ATR is, here’s a blurb I found on macroption.com:

ATR is very commonly used by equities traders for use in sizing their positions and setting stops. I’ve used it often for this application.

However, ATR won’t help us determine if the options premiums are “high” or “low.” This is because ATR is backward looking. It is a reflection of past volatility. It doesn't accurately reflect the amount of premium that market makers are pricing in the options. This is because premiums and therefore implied volatility are forward-looking. 

Volatility and ATR are often correlated, but you can't rely on ATR to give you a true sense of whether or not options are "cheap" or "expensive."

I hope you found this instructive.

~ @chicagosean

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