Parabolic SAR is one of those hidden gems in forex. Unlike other indicators such as RSI or moving averages. The SAR stands for Stop and Reverse and is aptly called so because the dots that appear on your charts follows the trend and thus visually tell you the high and low price points. Each of these ‘dots’ or points represent a potential reversal in the prices.
It was developed by J. Welles and for those who want to learn more including how it is calculated you can refer to the links at the end of the article.
Some basic context for the Parabolic SAR
The Parabolic SAR falls under the Oscillator category. Oscillators, as by its name is an indicator that oscillates and thus represents the high and low points. In other words, when the price of an instrument reaches its highest point (where usually a resistance is drawn up), the oscillator indicates this information.
Oscillators in forex simply tells us the pace and speed of movement. This is useful to assess the strength of a trend (ie. how strong the trend will be. Upward or downward trend).
While it might seem interesting to trade forex using Parabolic SAR, it is essential that you must first learn to understand what information the Parabolic SAR or PSAR is giving out and translate this information into actual data (that is, how are traders behaving to the price).
As mentioned earlier, PSAR is a forex oscillator. Therefore there are two points of interest. The highest point, which indicates an over-bought security (also known as resistance) and an under-bought security (also known as support).
PSAR has two parameters
- Acceleration Factor
- Maximum Constant
The ideal setting recommended is 0.02 and 0.2
If you set your acceleration factor higher, it becomes more sensitive while lower the maximum constant, the further will be the gap between the price and stop levels.
Strong points of PSAR
- Works only in trending markets. In a sideways moving market, the PSAR signals are false
- Ideal for entering early into a trend and exiting, but it is also used for setting up trailing stops as well
- While PSAR works for 30 minute chart and upwards, it is ideal to use on a 4 hour chart. Most expert traders tend to use PSAR on Daily/Weekly Charts
Is PSAR a good indicator on its own?
The answer is yes and no. Price action enthusiasts would refer to the PSAR only as a confirmation, but for the rest of the lot, Parabolic SAR can be used along side other indicators (most preferably the ADX Indicator) in order to confirm the entry/exit points. Some traders also tend to use the MACD histogram along with the PSAR to confirm the entry and exit signals.
Anyways, if you are completely new to PSAR, then its best to try the indicator on a demo trading account. And slowly test it out along with the MACD as well as the ADX indicator to find your sweet spot.
To add the PSAR, simply go to the ‘Navigation‘ window in your MT4 trading platform and click on ‘Indicators’. Here, you can find the Parabolic SAR Indicator. Right click and add to chart. You would be shown the parameter window. Unless you really know the PSAR inside out, it is best to keep it at the default settings of 0.02, 0.2
The above chart shows how the Parabolic SAR is plotted against a chart. When the PSAR dots appear above the price, it indicates a downtrend, thus potentially signalling a short order, while indicating a long order when the PSAR dots appear below the price. Each of the dots represents stop losses as well which can be used to lock in the profits.
Parabolic SAR – Further Reading
- Wikipedia explains Parabolic SAR
- How to use the Parabolic SAR in trading
- How to use PSAR in Forex Trading
Trading with PSAR
Once you have attached the Parabolic SAR, you will immediately see the ‘dots’ appearing either below or above the candles.
Dots appearing below the candle indicate an upward moving price, while dots appearing above the candle indicate a downward price movement.
The PSAR dots represent the strength of the trend. The further they are away from the price, the strong the strength.
PSAR works only in a strong trending market therefore it should not be used in a sideways market. Furthermore, it is essential to make use of other indicators to validate the trade signals from Parabolic SAR.