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Parabolic SAR is a technical indicator developed by J. Welles Wilder*. This indicator which is also known as Stop and Reversal Indicator (SAR stands for Stop And Reversal) is overlaid on the chart. It consists of some dots that either appear on top of the high of each session (i.e. each bar or candle) or below the low of the sessions (see image).

Parabolic SAR falls under the category of trend following indicators. SAR could be more effective if the market is trending.

Parabolic SAR Calculations

Parabolic SAR calculations are relatively complex.

Let's assume that the market has started an uptrend right after a downtrend (see the middle of the previous image). The first SAR point appears below the bar or candle. The exact location of this point is equal to the lowest low of the previous downtrend. If the uptrend continues the other points are calculated with respect to the previous points. Here is the formula.

SAR[0] = SAR[1] + (High[1] - SAR[1]) x PS

where,

• SAR[0] = current SAR
• SAR[1] = previous SAR
• High[1] = previous high
• PS = Parabolic Step (also known as Acceleration Factor)

For example if SAR[1]=1.2423 and High[1]=1.2536 and PS=0.06 then SAR[0] would be 1.2430 i.e. (1.2536-1.2423)x0.06+1.2423.

The starting value for PS is 0.02 by default. If the chart makes a new High in the current uptrend then this value is incremented by 0.02. This helps to accelerate the price follow. In other words in a strong trend the SAR points gradually approach the low of the bars/candles. The maximum value for PS is 0.2 by default. If you are using MetaTrader you can change the value of PS and Maximum PS by editing the indicator (see image).

In a downtrend the first point is the highest high of the previous uptrend. The rest of the points are calculated with the following formula.

SAR[0]= SAR[1] - (SAR[1] - Low[1]) x PS

where,

• SAR[0] = current SAR
• SAR[1] = previous SAR
• Low[1] = previous low
• PS = Parabolic Step (also known as Acceleration Factor)

PS starts from 0.02, increments by 0.02 if a new low is made, and the maximum value is 0.2.

Fortunately you, the trader, do not need to memorize these formulas. All you need to know is to understand that SAR is effective when you are dealing with an actual trend. In a non-trending situation or rather a range-bound market SAR could cause huge losses.

Using Parabolic SAR to Build a Trading Strategy

Many traders use Parabolic SAR to exit an open trade. For example you may use SAR as a trailing stop and follow your open trade. The trade closes when the price reverses and hits SAR. I will publish another article that includes such a trailing stop in the near future.

One other approach is to use Parabolic SAR both to enter and exit trades. The following strategy relies on Parabolic SAR to enter and exit trades.

Long Entry

If the previous SAR point is below the bar/candle while the SAR point prior to that is above the candle enter a long trade only if the current SAR point is also below the candle. In other words,

• SAR[2] > High[2]
• SAR[1] < Low[1]
• SAR[0] < Low[0]

You cannot build your strategy on SAR[0] and SAR[1] only. SAR[0] could be misleading as it could change position from with every tick data.

Long Exit

Exit a long trade when the trend changes direction. One approach could be considering the following situations.

• SAR[1] > High[1]
• SAR[0] > High[0]

 

We do not trust on SAR[0] only as it could change position due to tick data.

Short Entry

• SAR[2] < Low[2]
• SAR[1] > High[1]
• SAR[0] > High[0]

 

Short Exit

• SAR[1] < Low[1]
• SAR[0] < Low[0]

Download Parabolic SAR Expert Advisor [download]

I have developed an EA based on the explained strategy. Click here to download the EA.

I personally do not consider this EA a profitable one. I developed this EA upon a request that one of our good readers emailed to me.

You may be able to turn this EA to a reliable trading system by adding some money management tools or range market filters. With some knowledge of MQL programming you could easily enhance this EA. If you are not familiar with MQL click here to see your options to learn this easy-to-learn programming language.

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*Wilder has also developed many other popular indicators such as ATR (Average True Range) and RSI (Relative Strength Index). [back to text]

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