Chart indicators are a trader’s best friend in executing trading decisions. It provides a better view of the opportunities as well as the risks involved in the market. while some indicators may be easy to use on any chart, there are also those indicators that require a higher level of analysis as well as diligence in order to achieve better results or assumptions. Among the most popular as well as complex indicators is the Parabolic SAR Indicator. In this article, we’ll run through all the details that you need to know about the Parabolic SAR indicator and how you can take advantage of it in an actual trade on eToro.
What is the Parabolic SAR indicator?
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The Parabolic SAR indicator or Parabolic “Stop-And-Reverse” indicator is a chart indicator that signals possible trend reversal or trend continuation of a market. The “Reversal” or Market Reversal would simply mean that a bullish market is about to go bearish, and a bearish market is about to go bullish. The “Continuation” on the other hand means that the market will continue with its current momentum or trend. With the Parabolic SAR indicator, traders are able to find “safe” points within the chart and establish the points like entry and exit points.
Originally, the Parabolic SAR indicator was created for three particular functions. These functions include: to specify the current market trend, to signal a reversal, and to identify the best possible entry and exit points in the time of reversals. With these elements recognized within a chart, it can be much easier to make short as well as long trades.
While this indicator works great on a daily range, it also works on smaller ranges such as hourly and minute ranges.
Parabolic SAR Computation and Implementation on Actual Trade
To be able to come up with the Parabolic SAR indicator on a chart, one needs to categorize the market if it is bearish (downtrend) or if it is bullish (uptrend). Once the kind of trend is determined, the following Parabolic SAR formulas are used:
Bullish Trend: PSAR = Prior PSAR + Prior AF (Prior EP – Prior PSAR)
Bearish Trend: PSAR = Prior PSAR – Prior AF (Prior PSAR – Prior EP)
The PSAR stands for Parabolic SAR while the AF is for Acceleration Factor and EP for Extreme Price. The Acceleration Factor is a variable that dictates the distances among the dots in the chart and can be modified by the trader to fit his or her trading style. The Extreme Price on the other hand is the highest value or amount which is reached by the price during the current trade. Standard or common values used for these variables are .02 for the AF, and .2 for the EP.
Fortunately, a trader doesn’t have to go through all these computations to draw the Parabolic SAR dots on a chart from eToro. The eToro platform is equipped with a wide range of handy tools like the Parabolic SAR tool. To access this tool, simply click the settings tab on the upper left of the eToro chart and look up the Parabolic SAR tool from the “Studies II” selection as shown in the image below.
Once the maximum and minimum AF has been assigned, the Parabolic SAR line will be plotted on the chart by means of dots. The “Parabolic line” will signal whether the market is moving through an uptrend or downtrend. The image below for the TSLA shows the series of trend changes, and every time the trend changes, the dots also move either above the candles or below the candles.
Whenever the Parabolic SAR indicator is above the candles, the market is expected to move at a downtrend movement. On the other hand, if the Parabolic SAR indicator is located below the candles, the market is expected to move at an uptrend movement. In the sample image, the red arrows show the beginning of a downtrend – in these instances, the first dot on top of the candles would be an ideal time to sell positions or to make short trades to secure profits. Whereas, the green arrows would be the ideal levels when to make a buy or purchase for positions to gain potential profits.
This particular case for TSLA shows that the indicator is effective for uptrend markets. Also, in this particular example, following the Parabolic SAR indicator alone would already provide potentially positive results.
Another example is for the stock AMZN which moves on a volatile price action.
In this particular example. The Parabolic SAR line is very obvious on every swing. Also, it is noticeable that a candle serves as a stoppage for the parabolic line. This means the parabolic line stops when it hits a candle and switches to the other trend.
Therefore, with this example with AMZN it can be assumed that whenever the parabolic line hits a candle, the trend will likely reverse. So, if you’re currently trading with the parabolic lines below the candles (on the green arrows), the best time to sell positions (or make a short trade) would be when the line hits a candle. This will be the same case with the bearish parabolic line (red arrow).
Our final thoughts about the Parabolic SAR Indicator
Although the Parabolic SAR indicator may seem like a fool-proof indicator that can tell the best and ideal entry and exit points on a chart, it actually also has its small flaws. Among these flaws include the occurrence of “false reversals” whenever the parabolic line hits a candle. The Parabolic line stops whenever it hits a candle and flips to another trend which may cause confusion to a beginning trader. To counter this flaw of the Parabolic SAR indicator, one needs to verify the strength of the trend by referring to the volume, disclosures or announcements from the company, trend lines, and other indicators that would support the trend reversal or continuation.
Also, when the Parabolic SAR indicator is activated, it constantly sends signals of bullish and bearish parabolic lines. If the indicator is constantly followed, the trader can make constant flips or switches to sell or trade based on the movement of the Parabolic SAR indicator. If this is the case, the trader may perform trades that don’t acquire many profits due to the constant trend changes shown by the indicator. To counter this problem, always verify the quality of the trend. Trade only on markets with significant price action or volatility and avoid trades that are moving at a flat line or consolidation to achieve higher potential gains using the indicator.
As a whole, the Parabolic SAR indicator is a great help in finding the best spots or areas to make long or short trades in a chart. However, just like any other indicator, it is not an “all-in-one” indicator that can tell all the right decisions, it still needs to be handled with caution to avoid trading mistakes. Also, to take full advantage of this indicator, it is best to pair it with other indicators such as RSI and Moving Averages. By having a secondary indicator that confirms assumptions, a trader will be able to make more sound decisions when trading.
Through a virtual account on eToro, you will be able to practice the use of the Parabolic SAR indicator on an actual trade by using virtual funds. By simply practicing your tools and your strategies will you be able to make better trading decisions and secure potential profits when trading.
Good luck and enjoy!
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