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.

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