Parabolic SAR Strategy for Binary Options

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Parabolic SAR Indicator and Strategy

The Parabolic SAR is an indicator and trading system developed by Welles Wilder, which can be applied to price charts. What follows is the basic strategy; you may wish to add additional indicators or forms of analysis to filter out some trades, as this strategy keeps you in the market at all times, which may not be ideal.

SAR stands for “stop and reverse” which means when signals appear the trader gets out of the former position and initiates a new one in the opposite direction.

While the calculation for the SAR indicator is rather complex, basically it attempts to isolate trends. When the trend is down the indicator “dots” are above the price bars. When the trend is up the indicator dots are below the price bars.

These dots act as a trailing stop on the position. For example, if the trend is up, when the price drops below the dots exit the long trade. A short trade can also be initiated. The new short/put is held until the price moves back above the dots.

Figure 1 shows how the Parabolic SAR looks and works.

Figure 1. EURUSD with Parabolic SAR – 5 Minute

The indicator and trade signals work best when there is a strong trend. In a sideways or choppy market the signals may not produce quality signals.

There are some variables that can be altered on the indicator. “Step” and “Maximum Step” are the variables and determine how sensitive the indicator is to changes in direction.

Decrease these variables to make the indicator more sensitive. This would likely be good for short-term and very active traders. Increase the variables to make the indicator less sensitive. This would likely favor longer-term traders who don’t mind holding through pullbacks and want to utilize a less active strategy.

Adjust these settings to determine a good fit for the instruments you trade and time frame you trade on.

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One way to filter out some trades is to only take signals in the in the dominant direction of the trend–but not take the trade signals that occur against that trend.

Figure 2 shows a long-term uptrend in the S&P 500. Therefore, when the parabolic SAR provides a signal to buy, buy. Close the position when it signals to sell, but don’t go short/buy puts.

Figure 2. S&P 500 with Parabolic SAR – Daily Chart

The green arrows indicate buy signals. The trade is closed when the dots move on top of the price bars. There are no red arrows because no short/put trades are taken, as the dominant trend is up.

In the case above we can also see that price is moving within a trend channel as well. To further filter signals a trader could take only those trades that occur near a channel bottom (in the case of an uptrend, or a channel top in the case of a downtrend) or trendline.

Figure 3 shows that this cuts down the number of trades, and in this case avoided some of the lower quality signals which occurred toward the top of the channel during choppy price action.

Figure 3. Trendline Filter

The Parabolic SAR is an indicator that acts as a trading strategy. Ultimately though you will need to define your risk on each trade, and determine which signals to take and which to avoid. Looking at multiple times frames can aid in this, as trading with a trend generally provides higher quality signals than when the market is choppy. It is up to the trader to determine when the indicator and strategy is likely to be profitable, and when it is likely to produce poor signals due to market conditions. It is highly recommended other forms of analysis, especially price analysis, are used in conjunction with SAR signals.

Parabolic SAR Moving Average Trading Strategy

In this article, you are going to read about a trading strategy that teaches you how to use a parabolic SAR indicator (Stop And Reversal) trading tool, along with two moving average trading strategies to catch new trends on the reversal. This moving average and Parabolic SAR trading strategy will show you how to use the parabolic SAR indicator effectively and how you can add this trading system into your daily trading techniques.

The Parabolic SAR (PSAR) is an indicator favored by technical traders that captures reversal signals. The Parabolic SAR (Stop and Reverse) was developed by J. Wells Wilder. Wilder was a mechanical engineer best known for his technical analysis developments. He has also developed the DMI (Directional Movement Index), the RSI (Relative Strength Index), and other indicators dear to technical analysts today.

Hopefully, by the end of the article, you will have the right parabolic trend formula, learn what a crossover is, find out buy signals, the best moving average crossover for swing trading, best moving average crossover for day trading, and the best moving average crossover for scalpers. Also, read the hidden secrets of moving average.

The strategy is a dynamic trading tool that is used by many professional traders of every market (Forex, Stocks, Options, Futures). It is best used when the market is trending. If the market is choppy, the market is moving sideways, this tool does not particularly work at its best. Take a look at the Rabbit Trail Strategy if you are interested in trading sideways markets.

This was developed by Welles Wilder when he introduced this into his book in 1978 that was titled, “New Concepts in Technical Trading Systems.”

What this tool basically does is helps traders determine when the current trend will end, or when it is about to end. The way it shows you this is by placing dots that show up above or below the price candle. They appear above or below the current candle for a specific reason. If the dot is above the candle it will be a SELL signal or downtrend.

However, if the dot is below the candle this can be a signal to BUY or an uptrend. When the change occurs (the dot goes from below to above the next candle) this indicates a potential price reversal may be happening.

Some may think why not just trade the dots. When it reverses, just make an entry at that price. Technically you can trade like this and may win some, but this is a very risky way to trade this indicator. You need other tools to validate this potential trend.

As you can see above, if you simply just trade the dots this will frequently happen.

Which is why we use this indicator and two moving averages to determine an entry point. The moving average trading strategy will help verify that a reversal is in fact occurring. Here is another strategy called The PPG Forex Trading Strategy.

The combination of these indicators will give you accurate trend reversal setups.

This strategy can be used on any time frame on your chart. So day traders, swing traders, and scalpers are all welcome to use this type of strategy.

Here are the indicators you need to apply on your chart to use this trading strategy:

  1. Parabolic Sar strategy: Default Settings
  2. 40 Length Moving Average= Green color in our example
  3. 20 Length Moving Average= Red color in our example

What does the Parabolic SAR calculate?

The parabolic SAR is used to track price changes and trend reversals over time. In order to calculate today’s Parabolic SAR, you will need to know the most extreme price (EP), the acceleration factor (AF), as well as the most recent PSAR. You will also need to determine whether there is currently an uptrend or a downtrend.

In simple terms, if the pair is trading under the PSAR you should sell. If the pair is trading above the PSAR you should buy. There are many ways to trade this indicator. You can trade it with additional indicators or on multiple/different time frames. Nathan Tucci wrote an article in May 2020 that illustrates how the PSAR can be incorporated into a trading strategy. See that article by clicking here and his Forex Trading System article by clicking here. You can also simply trade the Parabolic SAR for longer terms, trending pairs. For example, let me show you this EUR/USD daily chart:

The “extreme price” will either be the highest high or the lowest low that has occurred within the relevant period. Every time a new EP is established, the trend will be updated. The acceleration factor (which begins at 0.02) will increase by 0.02 for each of the first ten times that the EP has been updated (creating a functional AF “ceiling” of 0.20).

The Parabolic SAR (PSAR) calculation is:

  • PSAR= Prior PSAR + Prior AF (Prior EP – Prior PSAR); for uptrends
  • PSAR= Prior PSAR –Prior AF (Prior PSAR – Prior EP) for downtrends

The difference between the uptrend and downtrend formula is whether the second part of the formula is added or subtracted. It’s important to note, without properly identifying the direction of the current trend, your PSAR calculations will be moving in the wrong direction.

Parabolic SAR Forex Rules for Short Trades

Rule #1- Apply Parabolic SAR system and Moving Average indicators to chart

You can choose different colors for the moving averages. The 20 period moving average is Red and the 40-period moving average is Green in this example.

Rule #2- The Parabolic SAR Indicator must change to be above price candle.

Notice how the dots were below the price. The parabolic stop and reversal (SAR) formula showed us that the price stalled out for a few hours and then the dot appeared above the candle.

This is a sign that a reversal may be forming.

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Rule #3- Another element that must occur is the moving averages must cross over.

In a short trade, the 20 period moving average will cross and go below the 40 periods moving average.

So now the 20 period moving average is below the 40 period moving average. However, something occurred that is notable. The dot then appeared below the price candle.

Since the moving averages are telling us that a downtrend is most likely going to occur, we will wait until the dot appears again above price candle to validate this reversal and enter a trade.

Rule #4- Parabolic SAR dot must be above price candle AND moving averages cross to where 20 period MA is below 40 period MA.

Note** One of these elements may occur before the other. The reversal dot can appear before the MA lines cross. Or the Moving averages can cross before the reversal candle. As long as there are both elements, the entry criteria are met.

Rule #5- Enter The Next Price Candle…

Enter (SELL) the very next price candle after the dot appears above the candle. You can see on our chart where we entered the trade. Waiting for one candle after makes sense because this proves to us that this reversal is strong. The moving averages are supporting the downtrend + the dot is signifying a downtrend.

Rule #6- Stop loss / Take Profit

The stop loss you will place 30-50 pips away from your entry. Always look for prior resistance or support to determine a stop loss. In our example, a stop loss was placed 40 pips from entry.

Your exit criteria are when the 20 and 40-period lines cross over again. OR when the dot reverses appears at the bottom of the candle.

This trade would have been a +203 pip profit using the MA cross exit approach. Not too bad.

Some will get out of the trade when the dot appears below the price candle. If that was the case, in this example, you would have got +32 pips instead. Still not bad, but +203 pips sounds a lot better.

So basically you can use either exit strategy. This trade the downtrend was very strong so we stayed in until the MA lines cross. Determine where you are in a trade. If you are up +100 pips and the dot changes to reversal consider getting out then and taking your profit.

Note** Scalpers should not be using a 30 to 50 pip stop with this strategy. Consider your rules and adjust accordingly. A 5-10 pip stop may be more appropriate on that low of a time frame. If you like this strategy and have a stop you think works best, leave us a comment below and tell us what you think!

Rules for Long Entry.

Rule #1- Apply indicators to chart

Rule #2- Dot must change to be below price candle. This is a sign that a reversal may be happening.

Rule #3– Another element that must occur is the moving averages must cross over.

In a long trade, the 40 period moving average will cross and go below the 20 period moving average.

Rule #4- Dot must be below price candle AND moving averages cross to where 20 period MA is above 40 period MA.

Note** One of these elements may occur before the other. The reversal dot can appear before the MA lines cross. Or the Moving averages can cross before the reversal candle. As long as we have both elements the entry criteria is met.

Rule #5- Enter Next Price Candle. Enter the very next price candle after the dot appears below candle + MA lines cross and 20 period MA is above 40 period.

Rule #6- Stop loss / Take Profit

The stop loss you will place 30-50 pips away from your entry. Always look for prior resistance or support to determine a stop loss.

Your exit criteria in the example below were when the dot appeared above the candle.

This would have been a nice +74 pip profit trade using this strategy.

Conclusion

As stated the Moving Average Trading Strategy can be used on any time frame. However, you should always check different time frames and look at what the market is currently doing. No strategy can give you a 100% win ratio so always be placing your stops at the appropriate areas. I would recommend practicing making both short and long trades with this moving average trading strategy.

Thank you for reading!

Please leave a comment below if you have any questions about Parabolic SAR Moving Average Strategy!

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How to use Parabolic SAR Indicator to Trade Stock & Binary Options

The Parabolic SAR indicator (or PSAR) is designed to calculate the point in time when there emerges a better than average probability of a trend switching directions.

Developed by Welles Wilder, a famous technical trader who also created the RSI indicator, the Parabolic SAR is easy to understand and is used by many traders to predict when a trend will reverse.

Visual Representation of the Parabolic SAR

On a chart, the Parabolic SAR indicator is displayed as a series of dots positioned either above or below the asset’s price. A dot below the price indicates a bullish trend while a dot above the price indicates bearishness.

Stops and Reversals

A trading signal is generated whenever the series of dots reverse positions. A buy signal is generated when the dots shift from above the price to below the price. A sell signal is generated when the dots move from below the price to above the price. Traders typically wait for two or more dots to crossover before confirming the signals.

PSAR Parameters

The parabolic SAR indicator only has two parameters. They are the Acceleration Factor or AF and the maximum AF.

The Acceleration Factor affects how sensitive the PSAR indicator is to the underlying price fluctuations. The higher the AF, the more sensitive the indicator which translates into higher frequency of buy or sell signals being generated while simultaneously also reduces the strength of these signals.

Typically, the AF is defaulted to 0.01 for stock trading and 0.02 for currency trading. Maximum AF is usually set at 0.20.

Continue Reading.

RSI (Relative Strength Index) Indicator Explained

The RSI or Relative Strength Index indicator is bounded momentum based technical indicator that attempts to predict a change in momentum. . [Read on. ]

MACD Indicator Explained

MACD (usually pronounced Mac-Dee) stands for Moving Average Convergence Divergence. The MACD indicator gives the short to medium term trend of the price action. [Read on. ]

Bollinger Bands Explained

The bollinger bands are adaptive trading bands that reflect changes in volatility and provide a better view of the true extent of the price action. [Read on. ]

Parabolic SAR Explained

The Parabolic SAR indicator (or PSAR) is designed to calculate the point in time when there emerges a better than average probability of a trend switching directions. [Read on. ]

ADX Indicator Explained

The ADX, or Average Directional Index measures the strength of a trend and can be useful to determine whether an asset is currently in a trending market or a ranging market. [Read on. ]

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