Updated on March 2, 2023
Parabolic Sar is a technical indicator that is developed by J. Welles Wilder. This indicator was developed to understand the direction of the movement of an asset. The SAR indicator refers to the ‘Stop And Reverse’ system and aims to locate potential reversal of the price movements of the targetted assets. Traders can also use this indicator to identify suitable entry and exit points.
SAR is used to identify trend reversals by plotting a trailing point that follows the price movement of an asset. If the price of the asset is rising, the SAR is plotted below the price; if the price is falling, the SAR is plotted above the price. When the price crosses over the SAR, it signals a potential trend reversal.
What is the formula of Parabolic SAR indicator?
The formula for the Parabolic SAR indicator is as follows:
SARt = SARt-1 + AF (EP – SARt-1)
SARt is the value of the Parabolic SAR at time t
SARt-1 is the value of the Parabolic SAR at time t-1 which means Prior SAR
AF is the acceleration factor, a value that determines the rate at which the SAR moves
EP is the extreme point, the highest high in an uptrend or the lowest low in a downtrend
The calculation of the Parabolic SAR starts with an initial value of EP. For each subsequent period, the value of SAR is updated by adding the product of the acceleration factor and the difference between the current extreme point and the previous SAR value. The acceleration factor starts at a fixed value and increases by a set increment each time a new extreme point is reached. This ensures that the indicator responds more quickly to rapidly changing price conditions.
What are pros and cons of parabolic SAR?
Pros of using Parabolic SAR:
It is easy to interpret making it accessible to traders with varying levels of experience.
It helps in Identifying trend reversals which can be useful for traders who want to enter or exit a trade at an opportune moment.
Parabolic SAR can be used in conjunction with other technical indicators, such as moving averages or oscillators, to provide a more comprehensive analysis.
Cons of using Parabolic SAR:
The indicator may give signals after the trend has already reversed, meaning that traders may miss the opportunity to enter or exit a trade at the optimal moment.
In volatile or ranging markets, the indicator may generate false signals, leading traders to make incorrect decisions.
The acceleration factor and the increment by which it increases are set in advance, limiting the flexibility of the indicator to adapt to different market conditions.