# Parabolic SAR: Formula, Calculation, and Python Code

In the dynamic realm of financial markets, technical analysis plays a pivotal role in guiding trading decisions and unravelling market trends. Among the arsenal of technical indicators, the Parabolic SAR (Stop and Reverse) stands out as a powerful tool for traders seeking to decipher trend directions and potential reversal points. The Parabolic SAR has gained prominence in trading stocks, commodities, and forex.

This indicator encapsulates key components such as trend direction and an acceleration factor (the rate at which SAR increases or decreases), making it an adaptable and versatile tool. The inclusion of an acceleration factor allows the SAR to dynamically respond to market shifts, a trait especially beneficial in capturing the momentum of trends.

Let us dive into the details of Parabolic SAR with this blog that covers:

## What is Parabolic SAR?

Parabolic SAR, which stands for "Stop and Reverse," is a technical analysis indicator used in financial markets to find out the potential trend reversals as well as for setting stop loss levels. It was developed by J. Welles Wilder, the same person who created other popular indicators like the Relative Strength Index (RSI), Average Directional Index (ADX) and Average True Range (ATR).

Here are the key components of parabolic SAR:

• Trend direction
• Acceleration factor

### Trend Direction

• As the line of the Parabolic SAR adorns price charts either above or below, they provide visual cues for discerning the underlying trend – an uptrend when below and a downtrend when above.
• To put it in a nutshell, you can see how I have summarised it below along with the chart.
• When the Parabolic SAR line is below the price, it suggests an uptrend (buy signal or going long).
• When the Parabolic SAR line is above the price, it suggests a downtrend (sell signal or going short).

### Acceleration Factor

• The indicator incorporates an acceleration factor, denoted as AF, which determines the rate at which the SAR moves in response to changes in SAR.
• The AF starts at a specified value (commonly 0.02) and can increase each time the trend extends, usually by 0.02.

## How is Parabolic SAR calculated?

The Parabolic SAR is calculated for each period based on the formula:

SARn = SARn-1 + AF * (EP - SARn-1)

Where,

• SARn is the current period's SAR.
• SARn-1 is the SAR from the previous period.
• AF is the acceleration factor.
• EP (Extreme Point) is the extreme point in the current trend. If the current trend is an uptrend, then the extreme will be the highest point in the trend before it goes down again and if the current one is a downtrend, it will be the lowest point in a downtrend before the trend goes back up.

### Example

Assumptions:

• We are looking at a daily chart of a stock.
• Current market price is $51. • The SARn-1=$50. The starting SAR is usually the previous day’s closing price.
• The Acceleration Factor (AF) is 0.02.
• The Extreme Point (EP) is $52 (highest point in the current uptrend). Here we have assumed an uptrend. • SARn = ? Let us calculate the SARn now. Calculation: SARn = SARn-1 + AF * (EP - SARn-1) SARn = 50 + 0.02 x (52-50) SARn = 50+0.02×2=$50.04

## Cons of Parabolic SAR

Now, let us see some drawbacks of using Parabolic SAR below.

• Whipsaws in Choppy Markets: Parabolic SAR can generate false signals in choppy or sideways markets, leading to whipsaws. Traders may experience losses when the price lacks a clear trend.
• Late Entry in Strong Trends: In strong trending markets, the Parabolic SAR may provide late entry signals, resulting in missed opportunities for capturing the entire trend.
• Dependence on Parameter Settings: The effectiveness of Parabolic SAR is influenced by the values chosen for its parameters, such as the acceleration factor. In certain market conditions, default settings may not be optimal, requiring adjustments.
• Not Suitable for Ranging Markets: Parabolic SAR is designed for trending markets and may not perform well in ranging or sideways markets where the price fluctuates within a certain range.
• Sensitivity to Price Volatility: The SAR's sensitivity to price volatility can lead to frequent changes in direction, especially when the market experiences sudden and sharp price movements.
• Lack of Directional Bias Information: While Parabolic SAR identifies the direction of the trend, it does not provide information about the strength or duration of the trend. Traders may need additional indicators for a more comprehensive analysis.

How to utilise Parabolic SAR to maximum potential?

Traders need to be aware of both the strengths and limitations of the Parabolic SAR and consider using it in conjunction with other technical indicators to enhance the robustness of their trading strategies. Additionally, risk management and a clear understanding of market conditions are crucial when using any trading tool. You can learn all about in this course on technical indicators python.

### Conclusion

Parabolic SAR (Stop and Reverse) is a valuable tool in technical analysis, aiding traders in trend identification and providing signals for potential reversals. Its simplicity and adaptability across timeframes make it accessible, especially for those new to technical analysis.

The indicator's inclusion of an acceleration factor allows it to dynamically respond to changing market conditions, offering a trailing stop-loss mechanism in trending markets. However, challenges arise in choppy markets with false signals and potential late entries in strong trends.

Dependency on parameter settings, unsuitability for ranging markets, and sensitivity to price volatility underscore the importance of using Parabolic SAR judiciously. Combining it with other indicators and practising effective risk management enhances its utility in crafting comprehensive trading strategies.

If you wish to learn more about parabolic SAR, you can explore our Learning Track on Technical analysis using quantitative methods. With this, you will get a series of curated courses to help you develop proficiency in Technical Analysis in trading.

Technical indicators such as Parabolic SAR are quite helpful in conducting the analysis since the indicator provides a glimpse into what to expect in a trend. This way you can decide the entry and exit points and can take informed trading decisions.

Updated by Chainika Thakar (Originally written By Vibhu Singh)

Note: The original post has been revamped on 26th December 2023 for accuracy, and recentness.

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