Parabolic SAR: trailing stop
Parabolic SAR consists of dots placed below or above the price, accelerating towards the price as the trend progresses. When the price crosses the dots, the SAR flips to the other side; this acts like a trailing stop.
In the chart above, you see orange dots below or above the candles. These are Parabolic SAR dots. If the dots are below the price, it indicates an uptrend; if they are above, it indicates a downtrend. The moment the price crosses the dots, the SAR jumps to the other side of the price; the points where the dots suddenly change position on the chart are these reversals.
SAR is an abbreviation for 'stop and reverse'. As its name suggests, it acts like a stop. In an uptrend, the dot moves up a little with each candle. It rises slowly at first; as the price makes new highs, it accelerates and approaches the price. The acceleration is done with an acceleration factor: it starts at 0.02, increases by 0.02 with each new high, and goes up to a maximum of 0.20. This means the longer the trend makes new highs, the tighter the SAR follows.
The purpose of this design is to protect profits. It leaves ample room for the price at the beginning of a trend, and tightens the stop as the trend matures. When the price crosses the SAR downwards, the uptrend ends and the dot moves above the price; a downtrend has now begun.
Parabolic SAR works very well in strong, one-sided trends: the dots follow the trend for a long time and provide a timely exit on reversal. In a sideways market, it's the opposite: as the price moves up and down, the SAR constantly changes sides, and each reversal means a small loss. Therefore, it is common to use SAR with an indicator that first tells whether a trend exists (e.g., ADX).
How to read it
- Look at the side of the dots: if they are below, there is an uptrend; if they are above, there is a downtrend.
- Think of SAR as a stop level: if you are in a position, you can move your stop just beyond the last dot.
- First, check for the existence of a trend; do not trust SAR reversals when ADX is low.
- Watch not just a single reversal, but a few candles after the reversal; in a sideways market, the first reversal is often reversed.
In this state right now
Currently, liquid symbols on the daily chart where Parabolic SAR is below the price (in uptrend mode) and close to the price (at most 6 percent away).
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Trap
The biggest trap is to consider every SAR reversal in a sideways market as a buy or sell signal. The price moving within a band crosses the SAR many times, and each signal ends with a small loss; the total can be significant. The second trap is to assume that SAR is automatically the correct stop: at the beginning of a trend, the dots can be very far from the price, and that distance may exceed your risk budget. Always consider the stop together with your position size.
Tip
On the analysis screen, the status of SAR is written as 'uptrend mode' or 'reversal'. Reversal indicates that a new track has started; mode indicates that the current track is continuing. Among the scans, there is also a scan that finds symbols where SAR has just turned to an uptrend.
Glossary
- Parabolic SAR
- A series of dots that follow the price, accelerate as the trend progresses, and flip to the other side of the price when crossed.
- Acceleration factor
- The speed at which SAR approaches the price; it starts at 0.02, increases with each new high, and reaches a maximum of 0.20.
- Trailing stop
- A stop level that moves towards the price as it moves in your favor, and does not move back.
- Reversal (flip)
- When the price crosses the SAR, causing the dots to move to the other side of the price.
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