Parabolic SAR is a technical forex indicator, that is used to visualize price momentum and possible trend reversal points. SAR Indicator may also be a very useful tool for placing stop loss. It was developed by author of many technical forex indicators W. Wilder (such as relative strength index). It is visualised as series of dots, plotted directly on the chart.
Using parabolic SAR forex indicator
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The first SAR buy dot is drawn once most recent swing high was broken. At this point, SAR will be drawn at last swing low price.
Position of the dots is relative to the price and may confirm or deny trading signal. SAR dot drawn below candle is confirming bullish signal while SAR dot drawn above candle confirms bearish signal. Series of dots on upper side of the price is confirming downtrend and vice versa for uptrend.
Distance between the candle and SAR dot indicates trends momentum, its health and speed. As trend is gaining momentum, distance between candle and the SAR dot increases, once it slows down distance gets narrower, until trend reverses and SAR dot is drawn on the other side of the price candle.
Stop loss and trailing stop loss logical placement.
SAR is one of the greatest tools for stop loss placement. It enables to tactically move it in the direction of the trade after each closed candle. After placing stop loss according to SAR indicator, trending forex market can become extremely profitable environment. We do so by simply placing stop loss at last drawn and closed SAR dot and then repositioning it in the direction of our profitable trade.
It is recommended to use parabolic SAR in combination with other indicators such as RSI (Relative strength index, Stochastic or Moving averages). Candlestick chart patterns can also be used for position timing and to avoid false signals.
By using Moving averages together with SAR we can avoid almost all of counter trend trades and thus improving our risk reward ratio and trade success probability.