Using Average Daily Range to Trade Binary Options

The Average Daily Range (ADR) can be a great addition to your trading toolbox, as long as you know how it is best used. When trading Nadex binary option and spreads, your trade setup is only as good as your target, so if you aren't using a method that finds targets in the course of analysis, then the ADR could be the piece you are missing.

Most people believe the ADR is best used to tell you when an run of price movement is over. For example if price falls to complete its daily range (or even further) then it is oversold and you should buy it. Unfortunately, it's not that simple. The ADR is only a guide (note the first word is "average") for the kind of price movement you can expect in an underlying during the course of a trading day. Price movement is not driven by the ADR.

The ADR is simple a calculation of what has happened in the past "on average". Price movements can go much, much further than the average daily range is calculating. A good case study is GBP/USD. A few weeks prior to the Brexit vote results, the five day ADR for GBP/USD was 63 pips and the 10 day was 120 pips. After the vote, it dropped 1200 pips! Buying at down 120 pips would have been a horrible trade.

The ADR is best used as a target of a move. When price reaches its average daily range, you can gauge the volume and price action at that point and either exit, move your mental stop, or let it ride to expiration. We have preached about the value of having targets, and the advantage Nadex products have with built-in targets and limited risk. But having a target in your initial analysis can be a huge advantage in choosing the binary strike or Nadex spread that is best to trade at a given time. So if you don't do analysis that includes targets, try the ADR as a way to know when to exit a profitable trade.

Bob Iaccino is the founder and chief strategist of Path Trading Partners. Futures, options and swaps trading involve risk and may not be appropriate for all investors. Past performance is not necessarily indicative of future results