Trading the trend in any forex market is a great trading strategy and using the Parabolic SAR to find chart reversal points in the direction of the Forex trend makes it even better.
We will use the 100-period exponential moving average to show us the trend.
This is a more extended period moving average than most people are used to, considering the 20-period moving average is the most popular.
For forex day traders, you could swap out the 100 EMA for the 20-period moving average or even the 10-period MA.
Why Use The Forex Parabolic SAR In A Trading Strategy
J. Welles Wilder invented this Forex trading indicator, and the Parabolic SAR stands for “stop and reverse.” In a chart uptrend, dots form under the price until the price reaches a certain point when it flips to the top, giving you a sell entry signal.
This is where the forex Parabolic SAR gets the “stop and reverse indicator” name. As Parabolic SAR is a forex trend following indicator, the “flip” from bottom to top indicates that longs should close their forex trading position and then sell the market they are trading.
For Forex traders, that means that the quote currency, the second currency in an mt4 Forex pair, has gained some strength.
Any forex trading strategy that uses the Parabolic SAR has a built-in trailing stop function. As price declines, for example, the color dots will decline as well, and seeing this “stop and reverse” is the focused feature, you can use the dots as a stop-out location.
As with any trading indicator you use for a strategy, you can make Parabolic SAR move sensitive by adjusting the increment setting. I use the default parameters as over-optimizing a trading indicator to make past data look better, which is a rookie mistake.
We will use the Parabolic SAR to give us both buy and sell entry signals, but we will not stop and reverse our chart trading position.
Using The Forex Moving Average With Parabolic SAR
Using the 100-period exponential moving average will allow us to stay inside the significant trend direction while taking only the entry signals that fall in line with the current market trend.
If you were to get every flip of the forex Parabolic SAR is a trading entry signal, you could find entering and exiting open positions quickly for a bit lost in a whipsaw forex market condition. Any trend following forex indicator is prone to fail in a forex market that is not trending. Since forex markets only trend about 35% of the time, you can use a filter that will help you stay out of low probability forex trading conditions.
Using the 100 forexes moving average will help keep us in line with the more significant trend and prevent overtrading. Looking at the red box, you can see price action shows consolidation, and the forex Parabolic SAR indicator flips back and forth, giving buy entry and sell signals.
It would have been tough to enter trading just taking the buy signals (look closely as some were profitable) even though a more significant up move was probably due to the overall trend. Taking sell signals would have also chopped your trading account to pieces.
Parabolic SAR Trading Strategy Rules
Every forex trading strategy needs rules, and the number one rule we will have for the forex Parabolic SAR strategy that we will use for forex swing trading is:
trade only in the line of the 100 EMA.
Our rules beyond that are pretty simple. Complex forex trading rules can lead to you not following your written trading plan, leading to a failed trading business. All successful traders follow a written plan, and I suggest you do so.
Buy Signals (just reverse for sell signals)
- We need a price to trade above the 100-period moving average. We will choose another forex market if the price whips around the EMA.
- The forex Parabolic SAR must print a dot beneath a candlestick, which will be our buy entry signal.
- Place a buy stop pending order, so momentum on breaking the setup chart candlestick high will take you into the forex market.
- Use a few pips below the printed color dot for your initial stop loss(SL) location.
Let’s break this mt4 chart down to see how the Parabolic SAR signals worked out about the uptrend of the 100 EMA.
- Notice chart price is whipping around and close to the chart 100 EMA. The two blue lines are the chart support and resistance levels of a range formed due to consolidating price action. We must wait until the price moves from the moving average before considering any Parabolic SAR trading signals.
- Significant momentum move, price action, and price structure traders can see price sitting on the range’s former resistance level. The white line is the buy signal with the small arrow indicating where you’d place an order.
- This is where the indicator stop, and the reverse nature of the forex Parabolic SAR come in. We would exit our long open position and not take the sell entry signal due to the trend.
- Buy signal occurs when the blue color dots appear below the chart candlestick. We don’t get triggered in the forex trade due to placing an order a few pips from the high of the setup chart candlestick.
- A sell entry signal is given, which cancels the long setup.
- Another buy signal is given, and the price takes off to the upside.
Stop Loss Location
The white arrows show the stop loss on these trades when triggered. You can see that it is a reasonably large stop requiring a smaller position size.
The forex trades did not trigger at the setup chart candlestick, and as the blue color dots climbed upwards while the forex trade order was still pending, you could alter your stop loss(SL) to align with the new plotted color dots.
Traders who understand forex price action, including chart pullbacks and breakouts, could use the color dots as a potential trading setup.
Alternative Forex Parabolic SAR Trading Strategy
Let’s look at the same mt4 chart but with a different trading perspective
Using a more forex price action approach, is there a way we can combine the forex moving average trend direction with the forex Parabolic SAR buy and sell entry signals? Yes.
Let’s use the entry signals to alert us to a potential trading pattern.
- The buy entry signal brings us to the chart where momentum moves and price consolidates at highs. We can play the chart breakout and use the corresponding blue color dot for our stop. We can also use the chart candlestick shown by the green color arrow. This is a failure test of chart lows where we can buy entry inside the range at the high of that candlestick.
- This sell entry signal alerts us to watch for a chart price action pattern. Here we get a chart pullback in price, and without a blue color dot switching to the chart bottom, we are not brought into a long forex trade when the price has a little rally in the middle of the chart pullback.
- Price breaks out of the chart trend line with a corresponding buy entry signal but does not go much further. Price pulls back, and the sell entry signal cancels any forex trading play.
- Forex Price action shows a retest of the broken trendline (which we see happen a lot!) and then a break of the down trendline with a corresponding buy signal.
By combining price action trading with trading in the trend direction and with the proper SAR entry signal, we can get some excellent trades in this Parabolic SAR strategy!