How will the Parabolic SAR indicator help you?
Traders, as a rule, can quite well find the logical levels of entry into the market. Perhaps this is because they are seriously concentrating precisely on this aspect of trade. However, when and where to step out of position is often for many a more difficult issue.
Many people want to give their position a little space for work at the beginning of a potential trend, but when the trend movement seems to stop or begin to run out of steam, it would be nice to get an effective signal for a quick exit in order to maintain the maximum profit. Using moving average intersections or trend line analysis can make you exit too soon when the movement makes fast reversals, or too late at the end of a new movement.
A good option would be a parabolic system of price and time, which got its name in the form of a model resembling a parabola or a French curve, as Welles Wilder described it in his book “New Concepts in Technical Trading Systems”. In this book, published in 1978, he introduced the parabolic system and several other methods that are now the mainstay of technical analysis. We are going to talk about the Parabolic SAR (PSAR) indicator today: we will analyze its algorithm and trading strategies.
Currency pairs: any
Trading Time: Any
Recommended brokers: Alpari, RoboForex, Amarkets
What is a Parabolic SAR?
Designed by Welles Wilder, the creator of RSI and DMI, Parabolic sets moving price stops for long or short positions. Also referred to as an indicator of stops and turns (the full name is “Parabolic SAR” - parabolic stops and turns), a parabolic is best for placing stop orders, rather than for establishing a direction of movement or a trend.
This indicator is referred to as trend indicators. It is a line very similar to a parabola (from where, in fact, the name of the indicator itself), which is superimposed on the price chart and based on their relative position (parabolic and chart), conclusions are drawn about the state of the market and its development prospects.
If the price crosses the Parabolic SAR lines, then the indicator reverses, and its next values are located on the other side of the price. In this “flip” of the indicator, the starting point will be the maximum or minimum price for the previous period. The indicator flip is a signal either about the completion (transition to correction or flat) of a trend, or about its reversal.
Wilder recommended first determining the trend, and then trading with a parabolic in the direction of this trend. If the trend is up, then you should buy when the indicator moves below the price. If the trend is down, then you should sell when the indicator moves above the price.
Long positions should be closed when the price falls below the line of the technical indicator, and short - when the price rises above the Parabolic SAR line. That is, you need to track the direction of movement of the Parabolic SAR and keep open market positions only in the direction of this movement. Often this indicator is used as a trailing stop line.
The indicator was developed and described in 1976 by Welles Wilder. Initially, the name of this indicator was SAR, as a combination of capital letters “stop and revers” - “stop and reversal”. Due to the complexity of the calculation, the indicator was actively used in the era of dominance in the technical analysis of computer technology. In Russian transcription, this indicator is sometimes also referred to as the “Parabolic System”. It was named so because the signals for closing, given during the course of price changes, as you probably already understood, draw a semblance of a parabola.
Wilder was looking for a system that could capture most of the gain in the trending market without relying on any external methods of retaining profits. Parabolic calculations result in a series of trailing stops, which, if triggered, signal a trend reversal. Stops are recounted daily (or for each time period you use) and become closer as the trend progresses. If the trend could not continue, the indicator will change the position to the opposite and a new time period will begin.
Parabolic works best during strong trend periods, which, according to Wilder himself, occur approximately 30% of the time. Therefore, the trader must first determine whether any trend is present on the market using other indicators, for example, Wilder's ADX line, and then trade using a parabolic in the direction of the trend.
To configure the indicator, only two variables are set: step and maximum step. The higher the step is set, the more sensitive the indicator will be to price changes. If the step is set too high, the indicator will fluctuate above and below the price too often, making its interpretation difficult enough. The maximum step controls the regulation of the parabolic as the price moves. The lower the maximum step value is set, the farther the stop will be moved from the price.
Wilder recommended setting the step value to 0.02, and setting the maximum step value to 0.20.
In his book, Wilder made the following important observation:
“I tried many different acceleration factors and found that a sequential increase of 0.02 works best, however, if you want to give the system an individual character to change the breakpoints that are probably used by other traders, use a incremental increase range between 0.018 and 0.021. Any incremental increase in this range will work well. ”
The indicator value increases if the price of the current bar is higher than the previous one in the bull market and vice versa. In this case, the acceleration factor (ACCELERATION) will double, which will bring the Parabolic SAR and price closer together. In other words, the indicator approaches the price the faster, the faster it rises or falls.
For long positions:SAR (i) = ACCELERATION * (HIGH (i - 1) - SAR (i - 1)) + SAR (i - 1)
For short positions:SAR (i) = ACCELERATION * (LOW (i - 1) - SAR (i - 1)) - SAR (i - 1)
SAR (i - 1) - the value of the Parabolic SAR indicator on the previous bar;
ACCELERATION (hereinafter AF) - acceleration factor;
HIGH (i - 1) - the maximum price for the previous period;
LOW (i - 1) - the minimum price for the previous period.
On the first day of the game, the acceleration factor is 0.02. This means that the output is shifted by 2 percent of the distance between the initial level and the extreme value. AF increases by 0.02 each time a rise gives a new maximum or a decline gives a new minimum, up to a maximum value of 0.20.
If during a long-term trend the market reaches three new highs, AF becomes 0.08 (0.02 + 3 * 0.02), and if the market gives nine new highs, then AF reaches its maximum possible value 0.20 (0 , 02 + 9 * 0.02). In the latter case, the price moves daily by 20 percent of the distance between its last position and the extreme daily.
Many change the acceleration factor. They adjust the value of the initial step (0.02) and the maximum value (0.20). Some increase them so that the system becomes more sensitive, while others reduce them so that the system responds more slowly. The initial step usually lies between 0.015 and 0.025, and the maximum AF value is between 0.18 and 0.23.
Trading Application for Trend Determination
Parabolic SAR is very easy to use for determining a short-term trend. If the price chart is above the indicator curve, this indicates an uptrend. If the price is below the indicator curve, this is a downtrend. If the price chart deviates significantly from the indicator line, then most likely they will come closer together, and the trend will change to the opposite, or the market will enter the flat phase.
It is most convenient to determine the trend at higher periods. Say, if you trade inside the day, look at the parabolic stands on the day.
Signal entry entry
Initially, the parabolic was a clean U-turn system. When a trader worked to increase and an order to exit the market was activated, he was offered to sell with a double lot. At the same time, he automatically went down. When the trader worked down and a stop occurred, he was asked to submit a purchase order with a double lot. At the same time, he automatically entered the increase.
In general, the signal for the transaction is the intersection of the price chart and the Parabolic SAR, which indicates a complete or temporary end or reversal of the trend. When the indicator “flips”, its next values are located on the other side of the price, and the maximum or minimum price for the previous period will serve as a new reference point.
It is very convenient in this indicator that it is easy to use. Initially, if the points are below the candles, then this is a buy signal, and when the points above the candles, this is a sell signal. This is probably the easiest indicator to use, since it involves the movement of prices either up or down. Nevertheless, this tool is best used in trending markets, which are characterized by long rallies and the same pullbacks, and in no case should you use it during side movements.
If you hit a false signal two times in a row, then this is a sign of a fixed market. Stop using the parabolic, but continue to monitor it and wait until it gives you two good signals on paper.
Setting stops and trailing
The most widespread use of this indicator is as a trailing stop (trailing stop), while the current SAR value is a stop only for the current bar (there will be a new level for the next bar).
Losers go broke due to the fact that they hold losing positions in the hope of a reversal of the market. Parabolic protects the trader from his own indecision and subordinates him to iron discipline. It sets an exit order simultaneously with the opening of a position and shifts the stop in the direction of the trend.
If you are working to increase or decrease, and the prices remain constant, a parabolic signal gives you a signal that the moment to enter is chosen incorrectly. You should not have sold or bought if you were not sure that prices would go up or down almost immediately after the transaction. Parabolic does not allow you to follow a trend that does not lead anywhere. He will simply give a signal to turn or hold your stop so close to the market that there will be an exit.
But during a monotonous trend, a parabolic is extremely useful. If prices rise or fall without pullbacks, it is very difficult to correctly set stops according to usual charts and indicators. Under these conditions, a parabolic is the best tool for choosing the level of the stop.
If you start using parabolic in this market, step back a few weeks and adjust its parameters. Tighten the stops after the indicator daily, but with one exception: if it tells you that the stop level should be within the price range of the previous day, do not do this. Stops should always be outside the price range of the previous day.
Closing Parabolic Positions
One of the points of view on the use of the Parabolic SAR indicator is that its main purpose is to search for optimal moments of closing a position. When the price chart crosses the indicator chart, this is a signal to close the position, since a market reversal has begun, a rollback or a transition to flat.
In this case, the Parabolic SAR chart is considered as the optimal level to exit the position. With this approach, the market entry point is selected on the basis of other methods - other technical indicators, price patterns, economic data, and so on.
Work with other indicators
Finally, there is the most robust and most professional approach, according to which the Parabolic SAR indicator should be mainly used to determine the moment of exit from the market, but it can (although it does not have to) be used to enter the market, but it must be confirmed by other indicators. Wilder took a similar approach, recommending using his ADMI / ADX (Average Directional Movement Index) indicator as an additional filter.
In short, the line + DI (green) should be higher than -DI (red) for the bull trend, respectively, for the bear trend the picture is opposite. The black line of ADX shows the strength of the trend. A trend is considered strong enough if the indicator value is above a certain threshold value - for example, 25. Also, ADX should not decrease at the moment of opening a deal.
The figure above is an example of deals on GBPUSD, daily timeframe. In the period from April 2018 to the present moment, 7 transactions have been completed. Of the six closed ones, three brought good profit, two closed at a small loss and one closed at a small profit (in fact, the closing occurred within zero profitability). A total of 1039 points were earned. When trading with 0.1 lot, this is about $ 1,000 in profit - it is quite worthy to work on only one currency pair.
Developed by Wales Wilder, the Parabolic SAR indicator is a valuable tool in trading in today's markets. This system is difficult to calculate, but quite accessible for use by the average trader. Unlike most methods of analysis, whether technical or fundamental, the parabolic is always unambiguous - it simply does not have a neutral indefinite position. After the entry into the position has been completed, the parabolic clearly determines where the pivot point and possible exit from it are located.