The Parabolic SAR

The geeky named parabolic sar is an indicator developed by Welles Wilder and its main function is to capture short-term trends in the market (and it is accurate most of the time.)

To have a better idea of what is being talked about, let’s have a graphical view of this indicator in action.

Here is a 5 mins chart with a parabolic sar attached to it.

The standard setting for this indicator is 0.02 and 0.2, however you may change it to whichever reading you feel comfortable with. I personally use a 0.04, 0.5 reading. This indicator is more sensitive to price action and may produce more false signals, but when used with other indicators it can produce good entries with low risk.

So… from the graph above, when the green dot appears at the bottom, it means that we may be in an up-trend. Breaking the lowest previous dot in a downtrend forms a dot on the opposite side showing that an upward trend may be on its way.

The same principle applies to a downtrend movement where breaking the highest dot in an up-trend forms an opposite dot stating that a downtrend may be on its way.

When a position is taken, the safest thing to do is to place a stop at the open of the price where dot was previously formed. This is a very conservative stop and if the move is strong; your stop won’t be triggered. This will limit your risk exposure if price was to go against you.

If (like me :) ) you are a bit more aggressive, you may decide to place the stop 10-15 pips below the opening price where the dot first appeared.

Happy trading.

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