The letters SAR in Parabolic SAR stand for Stop And Reverse. Parabolic refers to the parabolic-shaped series of dotted lines that are calculated and overlayed on the underlying price curve. These lines serve as exit indicators, and can tell you where to set your trailing stops.
The Parabolic SAR was developed by: J. Welles Wilder Jr.
How to Use
The SAR is calculated from previous data. In other words, information from the current period will determine what the SAR will be look like for the next period.
- When the price curve is trending up, enter a long position. For a long position, the SAR is always below the curve and when the price and SAR cross, it’s time to exit.
- When the price curve is trending down, enter a short position. For a short position, the SAR is always above the curve and when the price and SAR cross, it’s time to exit.
- When the price crosses the SAR then the position should be exited.
- The idea is to always be in the market, constantly alternating between a long and short position.
The following steps are for calculating Parabolic SAR for a long position.
- On the day that the trade is entered, the SAR is the lowest point taken from your previous trade. The extreme point is the highest high from your previous trade.
- Gradually the SAR will moved higher and higher whether the price moves higher or not.
- The Parabolic SAR is such that the faster the price curve moves, the faster the SAR and price converge.
The SAR is not placed within the range of the previous or the current period. The range is the vertical distance from the highest high to the lowest low. If calculations necessitate it, the lowest low over the 2 day period is used as the SAR for the following day. Otherwise, the Parabolic SAR for the next period is calculated with the following steps:
- Subtract the current SAR from the EP, extreme point (highest high ) and multiply what's left by the acceleration factor.
- The acceleration factor starts at 0.02 and increments by 0.02 everytime a new extreme point is achieved. The acceleration factor is capped at 0.20, afterwhich it just stays at 0.20.
- Add the result to the current SAR.
The algorithm for the above set of procedures is: