In this article, I talk about how to calculate the PSAR indicator. I show how the indicator can be used and describe the formulas for calculating it in Excel.
I have also recorded a video showing how to calculate the PSAR indicator using Excel. I suggest you check out the video because it contains additional information that is not in the article.
Parabolic markets are a rare phenomenon. These unusual markets occur when the price moves up or down at an increasing rate.
If you are trading in the direction of a parabolic market, it is a fantastic experience to feel the market surging along with you. However, it is a terrible experience to be on the wrong side of a parabolic move.
One of the great thinkers and developers of technical indicators, J Welles Wilder, realised that traders can be very profitable if they have an indicator that identifies and helps to trade these parabolic moves.
The Parabolic Stop and Reverse (PSAR) is a distinctive technical indicator developed by Wilder. The PSAR indicator is used to identify the trend, time market entries and as a trailing stop-loss.
The PSAR always moves with the trend. When the market is falling the PSAR is above the price. When the market is rising the PSAR is below the price.
The most striking thing about the PSAR is that, when the market moves actively, the indicator accelerates in response. This acceleration creates the distinctive parabolic pattern.
Speeding up the PSAR allow traders to take as much profit as possible from fast market moves. The speed of the acceleration and maximum acceleration can be changed to suit the market and trading strategy.
The Tradinformed Shop
The next step on from calculating technical indicators is to use them to test and develop trading strategies. Tradinformed Backtest Models are built in Excel using standard formulas. They can be used to backtest all sorts of trading strategies. To find out more check out the page: How to Use a Tradinformed Backtest Model. The latest models are available in the Tradinformed Shop.
Watch the video for a complete explanation of how to calculate the PSAR indicator.
How to Calculate the PSAR
The PSAR needs to start somewhere, and so the first line of the indicator will use the data from the first price bar. In the video, I have started the PSAR in a downtrend. The initial direction is not important because the PSAR is self-correcting. In this example, the initial PSAR value is the high price, and the initial Extreme Point value is the low price.
The second line of calculation starts with the Initial PSAR. This value is calculated using the formula:
Previous PSAR – ((Previous PSAR – Previous Extreme Point) * Acceleration Factor)
It is important to remember that in a downtrend the PSAR cannot be lower than the high price of the previous two periods. In an uptrend, the PSAR cannot be higher than the low price of the two previous periods.
The initial PSAR will become the Actual PSAR unless it has been touched by the price. If the price touches the initial PSAR value then the indicator changes direction and the previous Extreme Point becomes the actual PSAR.
In a downtrend, the Extreme Point is the lowest price during that downtrend. In an uptrend, the Extreme Point is the highest price during that uptrend.
The initial value of the Acceleration Value is 0.02. When the price makes a new Extreme Point, the Acceleration Value increases by 0.02 up to a maximum of 0.2. It is this acceleration factor that makes the PSAR go parabolic.
Calculate More Indicators
If you are interested in technical indicators have a look at the page on Calculating Technical Indicators.