Trading on ADX and Parabolic SAR

Published:16 July 2018 Updated:4 January 2024

Parabolic SAR and ADX are two indicators that perfectly complement each other. The double filtering of signals allows to increase the efficiency in comparison with the use of tools separately. Instructions for trading using the Parabolic we have already given on our website. This article will be mainly devoted to an overview of ADX indicatorwhich has recently been added to the terminal INTRADE.BAR.

 

A little historical background

The creator of the indicator, Wells Wilder, introduced the ADX in his own book, published 40 years ago in the United States. The publication was dedicated to new concepts technical analysis. The main attention of the reader is focused on the new indicator. However, the author has allocated a separate section for the review of the Parabolic system capabilities – Parabolic SAR. Therefore, this combination was not chosen by chance. The tools really complement each other perfectly.

It is worth noting that Wells Wilder has made a significant contribution to the development of technical analysis in modern financial markets. He has developed dozens of systems, which in modern times have become the basis of the indicators of tehanalysis and automated trading systems. His merits were recognized by Financial World, which in the mid-1980s named Wilder the most outstanding analyst who had developed more tools for the analysis than anyone else.

 

Indicator overview

  • ADX is an acronym that stands for Directional Movement System. However, it includes several instruments. The indicator consists of three curves, located in a separate window
  • +DI (green) is the curve that shows the strength of the positive movement on the graph;
    -DI (red) is a similar line, the construction of which is determined by the negative movement;
  • ADX (white) – the average curve showing the cumulative power of the directional movement index.

In addition to the three values considered, there are auxiliary values used in the calculation formula. They are ATR – the true interval, DX and ADXR – the average index of non-directional movement and its power. The indicator additionally has a histogram, which shows the moment of intersection of curves +DI and -DI.

In the settings you can change the period of the main line and the smoothing coefficient. Its increase leads to a decrease in sensitivity. The indicator begins to react with a delay, taking into account the most significant price trends.

 

Indicator signals

The directional index is a more complex system than a combination of curves that intersect each other. The presence of three lines provides 9 different combinations. The main signal is the intersection of the two main curves, which have a red and green fill color.

The rules are simple: if the -DI line (red) is above +DI (green), then the market has an active uptrend. If the opposite is true, then the trend, respectively, is negative.

For traders’ convenience, a histogram has been added, which, in addition to the crossing point, clearly shows the divergence between the two main curves of the indicator. Negative bars indicate price decrease, positive green bars indicate price increase.

The pictures above illustrate the classic ADX signals, which are complemented by a Parabolic filter. Beginners are advised to start with this combination. More experienced traders often use the ADX as a stand-alone instrument, but also rely on other ADX signals in addition to the main one.

The ADX line, which has a white fill color, shows directly the strength of the trend. The higher it is in the indicator window, the stronger the trend. The curves move within an area conditionally divided by 100 units. The standard interpretation of the line position is as follows:

  • 0-25: minimum market volatility, flat;
  • 25-35: the emergence of a trend and the beginning of a new movement trend;
  • 35-50: the most active phase of the market movement;
  • 50-100: the maximum value of the indicator, the final push of the market.

High values of the indicator signal a strong oversold or overbought market. Therefore, if the ADX curve is above 50, then trade on trend direction is not recommended. It is better to wait for a trend reversal and enter the market with the beginning of a new movement, when the value of the Index is less than 35.

When entering the market trader should consider the position of all three lines of the indicator. The optimal situation when against the backdrop of a long-term trend reversal occurs crossing +DI and -DI and at the same time ADX demonstrates a change from a negative trend to a positive. If the white curve of the indicator shows a decline, then you can not open a deal in any direction of the market.

 

Example of ADX trading

Let’s test the strategy using Parabolic SAR and ADX on the Intrade Bar platform (Open a demo account). We will trade on the crypto index chart. This asset is optimal for technical analysis on the second timeframes, as well as it often offers the highest percentage of profit. At the time of testing, the yield was 87%, this is the maximum value for VIP accounts.

So, on the upper chart all the paragraphs are observed. The +DI and -DI crossing occurred, the bar chart bars began to form below the N/A level, the white ADX line is at 13 (trend initiation), and the Parabolic began to build points above the candles. Therefore, let’s enter the market with a trade at minimum expiration date. For the selected interval of the chart it is equal to 4-5 candles.

The signal worked out, the contract is expired with 87% profit. In conclusion, again, it is the combination with Parabolic SAR that allows you to get the most out of the ADX. This can be clearly seen in the example above. There were several false signals on the chart 15-20 candles before we entered the market, and the ADX also showed a decrease in the strength of the trend. We should not trade in this situation.

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