What is Parabolic SAR (Parabolic Stop and Reverse)? Detailed Explanation of Formula, Usage, and Points to Note
1. Overview
Parabolic SAR (Parabolic Stop and Reverse) is a trend-following technical indicator used to visually grasp market trend direction and turning points, and to determine trading timing. Developed by J. Welles Wilder in 1978, it is displayed as "dots" on the chart. When these dots approach the price, it suggests the potential end or reversal of the trend.
2. How to Calculate Parabolic SAR
The following elements are required for calculating Parabolic SAR:
- EP (Extreme Point): The highest or lowest price during the current trend.
- AF (Acceleration Factor): Acceleration factor. Defaults to 0.02 and increases incrementally up to 0.2.
The specific calculation formula is as follows (for an uptrend):
SAR(t) = SAR(t-1) + AF × (EP - SAR(t-1))
- In an uptrend, the SAR is displayed below the price, and in a downtrend, it is displayed above the price.
- A reversal occurs when the price crosses below the SAR (uptrend) or above the SAR (downtrend).
3. How to Use Parabolic SAR
3-1. Trend Following
- When the SAR dots are displayed below the price: Suggests an uptrend.
- When the SAR dots are displayed above the price: Suggests a downtrend.
3-2. Reversal Signal
- When the price breaks through the SAR, it is judged as a trend turning point, prompting consideration of closing positions or entering in the opposite direction.
3-3. Setting Stop Loss
- Use the position of the SAR as a guideline for stop loss, leveraging it for risk management.
4. Practical Example
- Entry and Exit in an Uptrend:
- Maintain a long position while the dots are below the price and the trend continues.
- Close the position when the price falls below the SAR, confirm the reversal, and switch to a short position.
- Entry and Exit in a Downtrend:
- Maintain a short position while the dots are above the price and the downtrend continues.
- Close the position when the price breaks through the SAR.
5. Points to Note and Limitations
5-1. Noise in Ranging Markets
- When the trend is not clear, the SAR frequently reverses, potentially generating false signals.
5-2. Delay During Strong Trends
- If a trend is strong and continues, it may take time for the SAR to catch up to the current price.
5-3. Adjusting the Acceleration Factor
- While adjusting the AF can increase sensitivity, setting it too high carries the risk of increasing false signals.
6. Combining with Other Indicators
6-1. Moving Average (MA)
Use SAR as a trend-following indicator and combine it with a Moving Average to confirm the direction of the trend.
6-2. RSI (Relative Strength Index)
Combine with an oscillator indicator that measures overbought/oversold conditions to improve the reliability of reversal signals.
7. Summary
Parabolic SAR is a simple and effective technical indicator useful for trend following and setting stop losses. It is particularly strong in clear trending markets, but combining it with other indicators is recommended to enhance accuracy.
