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The Powerful Supertrend Indicator: A Comprehensive Guide

The Supertrend Indicator is a popular technical analysis tool used by traders to identify market trends and make informed trading decisions. This comprehensive guide will explore what the Supertrend Indicator is, how it works, its key features and limitations, and effective strategies for using it.

Forex Supertrend Indicator

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What is the Supertrend Indicator?

The Supertrend Indicator is a technical analysis indicator that helps traders identify market trends, acting as a filter to distinguish between market noise and actionable trading signals. It was created in the 1990s by French trader Olivier Seban to improve trend trading performance.

The indicator plots a line on the price chart that serves as a dynamic support and resistance level, helping traders determine potential buy and sell points as well as the overall market trend. It incorporates two key values in its calculation – the Average True Range (ATR) and a multiplier set by the trader.

Key Features:

  • Plots a dynamic support and resistance line that follows price action
  • Helps filter out market noise and identify trading opportunities
  • Easy to use with only ATR period and multiplier as inputs
  • Widely customizable based on trading style and market conditions
  • Works across all markets including stocks, forex, crypto, and commodities

How Does the Supertrend Indicator Work?

The Supertrend Indicator works by factoring in current market volatility through the ATR, and combining this with a multiplier set by the trader to plot upper and lower bands.[3] The ATR measures volatility by taking the greatest of the following over a defined period:

  • Current high minus current low
  • Absolute value of current high minus previous close
  • Absolute value of current low minus previous close

This value is then multiplied by the chosen multiplier to derive the upper and lower Supertrend bands. If the close is higher than the upper band, the trend is considered up. If the close is lower than the lower band, the trend is considered down.

The bands also serve as potential long and short entry points. A close above the upper band suggests a long entry point, while a close below the lower band suggests a short entry.

Supertrend Formula:

Upper Band = (High + Low)/2 + Multiplier x ATR

Lower Band = (High + Low)/2 – Multiplier x ATR

Supertrend Indicator

Key Features and Limitations

Strengths

The Supertrend Indicator has several key strengths:

  • Effective trend identification: The dynamic bands react quickly to changing market conditions, helping traders spot emerging trends.
  • Customizable inputs: Traders can tweak ATR period and multiplier to suit different trading styles, markets, and timeframes.
  • Noise filter: Cuts through market noise by ignoring small price movements and focusing on broader trend.
  • Easy to interpret: Simple line above/below price visuals make determining buy/sell points straightforward.
  • Wide compatibility: Works across all major markets and assets like stocks, forex, crypto, commodities etc.

Limitations

The Supertrend Indicator also has some limitations traders should be aware of:

  • Lagging indicator: Analyzes past price action, so signals come later than real-time data.
  • Prone to false signals: Volatile conditions can result in premature buy/sell signals, generating losses.
  • Subjective inputs: Optimal ATR period/multiplier values depend on trading style and market conditions.
  • Not suited for range trading: Works best in persistent trending conditions unlike choppy or sideways markets.

Effective Supertrend Trading Strategies

While the Supertrend Indicator can be used on its own, combining it with other indicators or analysis techniques can improve performance. Here are some effective trading strategies:

Supertrend + Moving Average Crossover

One of the most popular Supertrend strategies involves adding a moving average crossover system for additional confirmation before taking trades. This helps filter out false signals.

Entry rules:

  • Long entry when price closes above Supertrend line and faster MA crosses above slower MA
  • Short entry when price closes below Supertrend line and faster MA crosses below slower MA

Exit rules:

  • Long exit when price closes below Supertrend line
  • Short exit when price closes above Supertrend line

Double Supertrend System

This strategy layers two Supertrend indicators with different periods/multipliers. Taking trades only when both indicators align reduces false signals significantly.

Entry rules:

  • Long entry when both Supertrend lines are below closing price
  • Short entry when both Supertrend lines are above closing price

Exit rules:

  • Long exit when any Supertrend line falls below price
  • Short exit when any Supertrend line rises above price

Supertrend + Other Indicators

The Supertrend Indicator for MT4 can be combined with leading indicators like RSI, stochastic, MACD etc. for greater accuracy.

Entry signals should only be taken if both Supertrend and the other indicator align together on direction and strength. This filters out weaker signals.

Supertrend Indicator Final Thoughts

The Supertrend Indicator is a valuable addition for trend traders across stocks, forex, crypto, and commodities markets. Its ability to spot new trends early and filter out market noise makes it an essential tool for better timing trade entries and exits.

Combining the indicator with other analysis techniques improves results further. Overall, the Supertrend Indicator provides simple yet effective trend signaling to boost trading performance.

Author: Dominic Walsh
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I am a highly regarded trader, author & coach with over 16 years of experience trading financial markets. Today I am recognized by many as a forex strategy developer. After starting blogging in 2014, I became one of the world's most widely followed forex trading coaches, with a monthly readership of more than 40,000 traders! Make sure to follow me on social media: Instagram | Facebook | Youtube| Twitter | Pinterest | Medium | Quora | Reddit | Telegram Channel

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