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Parabolic stop and reverse (also called Parabolic SAR) is a useful trend-following technical indicator.
While using this indicator in the FX chart, you will see a single and dotted parabolic line beneath the actual uptrend, but the line will be shown above if the actual trend is bearish or moves downward.
Many Forex professionals have reported that this indicator can be useful because it has three primary functions.
First, it will outline the existing price trend or direction. Second, an investor can easily find out an ideal entry point, which may bring profits. Lastly, the trader may also realize when to exit the trade.
How can you calculate the Parabolic SAR?
We have mentioned earlier that this indicator will show you the way by revealing a single and dotted line. This indicator will use the latest extreme price (EP) and an acceleration factor (AF) to figure out the place where the line should be placed.
EP is the highest or peak value for a bullish trend and the lowest value for a bearish trend, and the value is updated each time when the movement touches a new highest or lowest value.
The acceleration factor is considered 0.02, and each time the EP touches a new value, it will increase by 0.02. The maximum AF value is 0.2.
During the uptrend movement,
Parabolic SAR = Prior Parabolic SAR + Prior AF x (Prior EP – Prior Parabolic SAR)
During the downtrend movement,
Parabolic SAR = Prior Parabolic SAR – Prior AF x (Prior Parabolic SAR – Prior EP)
After the calculation, the indicator will generate a dotted-single line, which will help you outline the existing price movement. But when intend to use such sophisticated tools, it is better to trade with high end brokers.
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When to enter and when to exit a trade by observing the Parabolic SAR?
For example, suppose you have a chart in which the actual price is in the uptrend, the dotted line will be shown below the real graph line. There will be a point when the present chart starts taking downward movement.
At the same time, the dotted line will be shown above the downward trend. This is the point where you have to sell your currencies.
In a nutshell, sell the currencies at that point where the Parabolic SAR closes its journey beneath the actual trend and starts a new journey above the chart. And buy the currency when the Parabolic SAR closes its journey above the actual trend and starts a new journey beneath the graph.
This is the most basic use of Parabolic stop and reverse. However, it is wise to evaluate the price action for an entire day to find out whether the chart is moving up or going down.
There is another indicator like moving average (also known as trendline), which can be used to determine the net direction of a trend in the Forex market.
An investor can combine the trendline, and this SAR indicator to understand and predict the market more comfortably. Professionals state that this indicator fails to generate a significant result when there is no specific trend.
Major advantages and disadvantages of Parabolic SAR
The major benefit that a trader will receive from this indicator is that he can quickly predict the movement during a sharp uptrend or downtrend. This indicator works best when there is a strong trend in the market. It can show you the potential entry point and the exit point.
However, the drawback is that you can’t use this indicator in a ranging market since there is no strong trend.
Every professional trader recommends the newbies to understand the market with in-depth knowledge so that they can differentiate the market and chart type.
Using this Parabolic stop and reverse indicator can be helpful when there is a sharp decreasing or increasing trend. Using this indicator effectively, you can easily make profits from the market.
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