How is the Parabolic SAR used for trailing stops?

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by jaron , in category: Stocks and Equities , 4 months ago

How is the Parabolic SAR used for trailing stops?

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1 answer

by elizabeth , 4 months ago

@jaron 

The Parabolic SAR (Stop and Reverse) is a popular technical analysis indicator that can be used to set trailing stops in trading. Trailing stops are used to protect profits by setting predefined exit levels that adjust dynamically as the price moves in favor of the trade. The Parabolic SAR indicator provides a straightforward way to determine these trailing stop levels.


Here's how the Parabolic SAR is used for trailing stops:

  1. Calculation: The Parabolic SAR indicator is calculated based on the previous period's data. It uses a formula that projects dots above or below the price chart, indicating the potential future direction of the price movement.
  2. Entry: When initiating a trade, traders typically set a stop-loss order to limit potential losses. However, as the trade becomes profitable, they may want to set a trailing stop to secure their gains. The Parabolic SAR can be used as a dynamic trailing stop indicator.
  3. Trailing Stop Levels: Using the Parabolic SAR, the trailing stop levels can be set at the dots projected by the indicator. If a long trade is initiated, the trailing stop would be set at the recent lower dot below the price chart. Conversely, if a short trade is taken, the trailing stop would be set at the recent higher dot above the price chart.
  4. Adjustments: As the price moves in favor of the trade, the dots projected by the Parabolic SAR will continue to adjust. Traders can use these new dots as the updated trailing stop levels, continuously protecting their profits.
  5. Exit: If the price reverses and touches the trailing stop level set by the Parabolic SAR, it would trigger the stop order, closing the trade and locking in the gains.


It's essential to note that while the Parabolic SAR can be an effective indicator for trailing stops, it is not foolproof. Traders should consider other technical indicators, market conditions, and their individual trading strategies before solely relying on the Parabolic SAR for trailing stop placement.