Understanding the Supertrend Indicator

If you find it difficult to identify buy and sell signals, a technical analysis tool can help you. But if you are new to trading, then a supertrend indicator might be the game-changer.

Developed by Olivier Seban in 2009, this indicator provides you with a solid advantage in identifying appropriate entry and exit points.

This blog discusses the supertrend indicator and how it works. In addition, this blog also evaluates the strategies of using it and its interpretation.

What is Super Trend Indicator?

A supertrend indicator is a straightforward method for determining the general direction of the market for securities. Although it was first designed for commodities, it is also effective in other markets like stocks, currencies, futures, and bonds. Traders should wait for confirmation within a day or two before trading, since it displays trends and potential reversals. However, it can also offer misleading signals during periods of extreme volatility.

The supertrend indicator is simple to use, suitable for beginners, and operates throughout a variety of time periods without requiring frequent modifications. It aids traders in making decisions about whether to buy, sell, or avoid the market when paired with support and resistance levels.

How Does a Super Trend Indicator Work?

A supertrend indicator calculates its value by combining the Average True Range (ATR) with a multiplier. This is how it works:

1. Average True Range

   By considering the range between the highest and lowest prices during a certain period of time, the ATR calculates market volatility. It also takes into account the asset’s closing price. ATR can help you in comprehending the range of price movement and possible volatility.

2. Calculation of Supertrend

   The super trend method draws a line on the chart using the ATR. The trend rises and turns green if the price crosses this line. This indicates a buy signal. On the other hand, the line becomes red if the price falls below it, indicating a downward trend. This is an indication of selling.

Formula and Calculation of the Supertrend Indicator

A supertrend indicator is typically calculated automatically by trading platforms, so you do not have to do it yourself. To better understand what it informs you, it is helpful to understand how it is calculated. Additionally, you will be more adept at modifying the indicator from its default values to better suit your approach.

1. Average True Range

   ATR = (Previous ATR × (n – 1) + TR) / n

   In this formula:

   1. n = the number of bars or periods.
   2. TR = True range using one of the subsequent methods:
      1. Today’s high – today’s low
      2. Absolute value for today’s high minus yesterday’s close
      3. Absolute value for today’s low minus yesterday’s close

   2. Supertrend Bands

   These formulae may be used to determine your upper and lower bands after you have your ATR:

   Upper band = (High + Low) / 2 + (Multiplier × ATR)

   Lower band = (High + Low) / 2 – (Multiplier × ATR)

   In this formula:

   High = Asset’s peak price over a given period of time

   Low = Asset’s lowest price over a given period of time

   ATR = range of market volatility.

   Multiplier = A constant value used to adjust the indicator’s sensitivity to changes in price. Whole numbers are typically used, but depending on your trading strategy, the multiplier may be more precise.

How to Interpret the Super Trend Indicator?

1. Buy and Sell Signal

   To indicate a buy or sell, you can see a supertrend indication either above or below the closing price. Depending on whether or not you should buy, the indicator’s colour changes.

   The supertrend indicator turns green and indicates an entry point or points to purchase if it falls below the closing price. The indicator indicates a sell signal in red if a supertrend closes above.

   You will also notice that the crossing point occurs when a buy or sell signal is created. You will see that the closing price is greater than the indicator value when you hover the cursor at the moment when a buy signal is made, and the indicator becomes green. Similarly, the closing price will be lower than the indicator value when a sell signal is created, and the indicator turns red.

2. Stop-Loss Indicator

   The super trend indicator also indicates placing a stop-loss order. For instance, when the buy signal is green, and prices start to move in the direction of the indicator, you can enter or go long at this level. Similar to this, price points that are close to or in contact with the red sell signal might serve as resistance levels.

   You can set a stop-loss at a level below the green line if you have gone long. You can wait until prices fall below the red line-aligned level if you intend to take a short position.

Strategies of Using a Supertrend Indicator

The supertrend indicator is a useful tool, and you can utilise it to spot possible reversals, validate signals, and identify trends. Due to its flexibility, it is an essential part of many trading strategies, which are explained below:

1. Confirmation With Additional Indicators

   You can combine the supertrend indicator with other technical indicators, like the moving averages or RSI, to increase the reliability of their trades. In this strategy, you can confirm the trend direction as indicated by the supertrend. When multiple indicators agree on a trend, the likelihood of a successful trade increases. This also helps calculate more accurate entry and exit points.

2. Trend Following Strategy

   Using the supertrend indicator, you may also determine whether the market is now trending upward or downward and place trades. You can capture the majority of the trend’s movement in this way. The secret to using this approach is to wait for the supertrend indicator to confirm a signal before making a trade. By following the trend for as long as it lasts, this helps to maximise earnings.

3. Reversal Trading Strategy

   This trading strategy helps to identify anticipated trend reversals. In order to achieve this, you must search for indications that the present trend is weakening and may soon shift course. A potential reversal is indicated when the supertrend indicator changes from showing a bullish to a bearish trend or vice versa. You can initiate trades at this pivotal moment and profit from the newly established trend.

4. Benefiting From Reversals in the Market

   It focuses on trend shifts or market corrections as determined by the super trend indicator. You search for the ideal times when the market could revert following an extraordinary move when using this method. At these reversal moments, you may then make trades. You profit from the market’s natural tendency to correct itself in this way. In the end, it creates lucrative trading opportunities.

Benefits of the Supertrend Indicator

A supertrend indicator helps you identify appropriate entry and exit points. Here are the other benefits of using a super trend indicator:

1. Trend Identification

   The supertrend indicator provides clear signs for spotting trends. It is simple for traders to determine if the market is trending upward or downward.

2. Simplicity

   The indication is simple to use on charting systems, and the calculation is simple. It may be included in analysis by traders, even those with less technical competence.

3. Flexibility

   The supertrend indicator can adjust to shifting market conditions due to the application of ATR. The indicator’s bands provide a more responsive depiction of price changes by adjusting to volatility.

4. Versatility

   Due to its versatility, you can use this indicator with a variety of financial products, including stocks, currencies, commodities, and cryptocurrencies.

5. Risk Management

   By offering possible exit points, this indicator can help traders manage risk by helping them establish stop-loss levels.

Drawbacks of the Super Trend Indicator

The supertrend indicator has a lot of benefits. However, there are also some drawbacks, which are highlighted below:

1. False Signals

   The supertrend indicator may produce erroneous signals in erratic or sideways markets, which can lead to whipsaws. Losses may result from traders initiating transactions based on false indicators.

2. Lagging Indicator

   It may take longer than many trend-following indicators to identify changes in trends. If traders just use the indication, they could join or leave positions later than they would want.

3. Market-Specific Limitations

   The super trend indicator may not function as effectively for all financial instruments or in all market circumstances, despite its popularity in some markets.

4. Dependency on Volatility

   The supertrend indicator is very dependent on market volatility, and high volatility can result in wide bands. This may provide more indications but also raise the possibility of false signals.

5. Optimisation Challenges

   For the multiplier and ATR period, you must select suitable settings. It can be difficult to strike the correct balance.

Final Thought

The supertrend indicator is a useful tool, and it is simpler to track market movements. The green signal indicates to buy, and the red signal indicates to sell. To get better indications, you may use it with additional tools like moving averages or RSI.

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Frequently Asked Questions

1. Is a supertrend a good indicator?

A supertrend indicator is a useful tool for spotting trends and producing buy or sell signals. It is not flawless, and you should use it with other techniques for risk management and confirmation.

2. How to determine a super trend indicator?

You can determine a supertrend indicator by plotting a single, colour-coded line over a price chart to dynamically show the current market trend and possible entry or exit points.

3. How to use a supertrend indicator to identify buy and sell signals?

If a supertrend indicator closes above, the indicator shows a sell signal in red. If it drops below the closing price, the supertrend indicator turns green and shows an entry point or points to buy.

4. Does a supertrend provide a reliable indication?

Your risk tolerance, asset type, and market circumstances all affect the reliability of the supertrend indicator. Although the supertrend indicator may be useful for seeing trends and controlling risk, its reliability is not perfect, and it should only be utilised in conjunction with more comprehensive research.