Tips to Help Demystify the RSIPrimary Chart: Tips to Help Demystify the RSI
Introduction to Momentum Indicators
Many indicators exist for technical analysis. And a number of them focus on momentum, which is distinguishable from other core technical concepts such as trend, support and resistance, volatility, and standard deviation. Momentum tools measure the velocity of a directional price move. Using a train as an analogy, momentum considers the speed, velocity and magnitude of the train's movement in a given direction, e.g., north or south. In a sense, it helps determine the strength and speed of the directional travel of the train.
By contrast, trend analysis considers whether a price move is consistently heading in a given direction. A trend can be valid despite corrective retracements, where price retraces a portion of the prior move, consolidates a portion of the prior move, and then resumes movement in the trend's direction. Using the same train analogy, trend analysis considers how effectively and persistently the train is moving in a given direction, such as north or south. Momentum, though, considers the train's speed and velocity in whatever direction the train is moving.
Many momentum indicators also are not limited to analyzing momentum and may have utility as a trend gauge as well. For example, Stochastics, MACD and RSI all have the additional capacity to help analyze trends.
Basic Concepts and Calculation of RSI
Created by J. Welles Wilder, the RSI is one of the most widely used and well-known momentum indicators. The acronym "RSI" means relative strength index. RSI should not be confused with the concept of relative strength, which compares one instrument or security against another to determine its outperformance or underperformance. Some other common momentum indicators that have been in use for many years include the Rate-of Change, Chande Momentum Oscillator, Stochastics, MACD, and CCI. Most momentum indicators, including RSI, share some conceptual aspects, such as overbought and oversold conditions and divergences, even though they may vary in the way they are calculated and interpreted.
Reviewing the way an indicator is calculated can sometimes help to sharpen one's understanding of it and interpret it more effectively. RSI's calculation is not as complex as some indicators. So reviewing its calculation remains an accessible exercise, but this is not essential to mastering the indicator. TradingView's RSI description contains a useful summary of how the indicator is calculated. See the Calculation section of the RSI description at this link: www.tradingview.com(close%2C%2014).
Another excellent description of how RSI is calculated may be found on this reputable technical-analysis website: school.stockcharts.com
To summarize, RSI's basic formula is as follows: RSI = 100 – (100 / 1 + RS), where RS = average gain / average loss.
Using the default lookback period of 14 (note that any lookback period can be selected), the calculation then proceeds to include 14 periods of data in the RS portion of the calculation (average gain / average loss). So the average gain over the past 14 periods is divided by the average loss over the past 14 periods to derive "RS," and then this RS value is plugged into the formula at the start of this paragraph. The subsequent calculations also have a lookback of 14 periods (using the default settings) but smooth the results.
Smoothing of these values then occurs by (1) multiplying the previous average gain by 13 and adding the current period's gain, if any, and dividing that sum by 14, and (2) multiplying the previous average loss by 13 and adding the current period's loss, if any, and dividing that sum by 14. If the lookback period is adjusted from the default of 14, then the formula and smoothing techniques will have to adjust for that different period.
In short, the calculation reveals that RSI's core function is to compare the size of recent gains against the size of recent losses and then normalize that result so the indicator's values may fluctuate between 0 to 100. Note that if a daily period is used, for example, the average day's gain is compared against the average day's loss over the lookback period selected. Similarly, if hours are used, the average hour's gain is compared against the average hour's loss over the relevant lookback period.
RSI can be used on any timeframe, including a 1-minute or 5-minute chart, and simply calculates its values based on the period to which the indicator is applied, based on a default using closing prices for the period specified. With TradingView's RSI indicator, traders have a great deal of flexibility in adjusting such defaults to some other preferred value, so the closing price need not be used—the default can be changed to the open, the high, the low, high+low/2, high+low+close/3, or several other options.
Interpreting RSI's Overbought and Oversold Signals
With some exceptions, the higher-probability RSI overbought (OB) and oversold (OS) signals align with the direction of the trend. The old trading adage remains valid for RSI as with other forms of technical analysis: the trend is your friend. In the chart below, consider the yellow circles flagging OS signals that could have been effective in the Nasdaq 100's uptrend in 2021.
Supplementary Chart A: Example of RSI OS Conditions That Align with an Uptrend and Key Support
As with other technical trade signals, countertrend setups should be avoided in the absence of overwhelming confirmation from other technical evidence. If a countertrend setup is traded, use extra caution and smaller position size. In this context, trading RSI signals against the trend means selling or entering a short or bearish position in an uptrend when an OB signal appears, or it means buying or entering bullish positions in a downtrend when an OS signal appears. It may also mean trading counter-trend positions as soon as RSI begins exiting an OB or OS zone.
Stated differently, trading overbought and oversold signals against the trend will likely result in mounting losses. Countertrend trades require much technical experience and significant trading expertise—and even the most experienced trading veterans and technical experts say that the counter-trend trades tend to be low probability setups. In short, never trade the RSI's OB and OS signals mechanically without considering any other technical evidence.
Supplementary Chart B: NDX OB Condition in an Uptrend
In the chart above, note how the Nasdaq 100 (NDX) reached a fairly high daily RSI reading of 77.17 on July 7, 2021. This chart shows an example of how even very high OB conditions can persist much longer than expected. RSI remained above 70 for over a trading week. And the ensuing pullback was not that significant, and it didn't reverse the uptrend at all. The risk-reward for mechanically trading this setup would have been poor, and stops would probably have been ignored at some point in the days following the signal. For an experienced trader with small position size, perhaps the second RSI peak immediately following the July 7, 2021 peak would have worked for a short-term trade given that a divergence arose (higher price high coinciding with a lower RSI high). But it would still have been a difficult trade requiring excellent timing and precision.
In summary, OB / OS signals should not be interpreted and traded mechanically. The trend and other technical evidence should always be considered. OB / OS signals work best when aligned with the direction of the trend on the relevant time frame. They also work best when taken at crucial support or resistance.
Consider several other tips and tricks when interpreting OB / OS signals on RSI.
1. The importance of an OB / OS signal depends not only on the context of the trend in which it arises but also on the time frame on which it appears and the lookback period used in its calculation. This is intuitive, but it helps to keep this in mind. For example, an OB / OS reading has a greater effect on the weekly or monthly chart than on the daily, and an OB / OS reading has a greater effect on daily chart than on the hourly or other intraday chart. Furthermore, if the RSI lookback period is set to 5 periods on a given time frame, the effect of an OB / OS reading will less significant than if the RSI lookback period is set to 14 (the default setting).
2. Consider past OB / OS readings for the same security or index being considered (using the same time frame for past and current OB / OS readings). Each security or index may have OB / OS levels that differ somewhat from other securities or indices. In addition, the OB / OS readings that are typical for a given a security, index or instrument may vary over time in different market environments. It may help to draw support or resistance lines on the RSI indicator within the same market environment and trend to determine what RSI OB / OS levels are typical. RSI support or resistance levels in an uptrend should not drawn to be applied and used in a downtrend for the same index or security.
Supplementary Chart C.1: RSI Support and Resistance Levels for NDX in 2021 on Daily Chart
Supplementary Chart C.2: Two RSI Downward Trendlines Drawn on BTC's Weekly Chart to Help Identify Resistance
3. Divergences can strengthen the effect of an OB / OS signal. Stated simply, a divergence occurs when the RSI and price are in conflict. For example, consider two or three subsequent higher highs in price that occur (this can happen in an uptrend or a bear rally or in a trading range). When price makes the second or third high, a divergence arises if RSI makes a lower high. Or consider two or three subsequent lower lows in price. When price makes the second or third lower low, a divergence arises if the RSI makes a higher low. A greater number of divergences presents a stronger signal than a lower number of divergences. And having divergences on multiple time frames can also be helpful. Finally, a divergence should not be traded until confirmation comes from price itself, i.e., a trendline or other support / resistance violation.
Supplementary Chart D: Example of RSI Bearish or Negative Divergence at NDX's All-Time High in November 2021
4. OB / OS signals also can be helpful in chop when they arise at the upper boundary of a well-defined trading range. In choppy trading ranges, one has a better trading edge at the edge. OB / OS signals that arise at the edge (at critical support / resistance) are the most useful. But depending on the trading strategy, setups in choppy trading ranges can be more difficult and lower probability than setups in strong trends.
Using RSI as a Trend-Analysis Tool
While primarily a momentum tool, the RSI has trend-analysis aspects. Because the RSI will likely remain in overbought (OB) or oversold (OS) for extended periods, it helps evaluate the strength and duration of price trends.
In an uptrend or bull market, the RSI (daily) tends to remain in the 40 to 90 range with the 35-50 zone acting as support. In a downtrend or bear market the RSI (daily) tends to stay between the 10 to 60 range with the 50-65 zone acting as resistance. These ranges will vary depending on the RSI settings, time frame, and the strength of the security or market’s underlying trend. As mentioned above, RSI readings will also vary from one security or index to another. They also vary in different market environments, e.g., a strong uptrend vs. a weak uptrend will have different OB / OS readings.
So the RSI can help confirm the trend when it moves within the RSI range that is typical of that security or index when trending. As a hypothetical example example, if a major index appears to be making higher highs and lower highs, respecting trendline and other key supports, and showing technical evidence of an uptrend, then RSI can help confirm this trend analysis by marking OS lows within the 35-50 range (perhaps 30 on a volatile pullback). RSI can also help time entries and exits when reaching the area that has been where RSI has found support in its current market environment.
The following points summarize how RSI tends to operate during trending price action:
During an uptrend, RSI will trend within the upper half of the range (roughly), moving into OB territory frequently (and at times persisting in the OB zone) and finding support around 35-50. When RSI finds support around 35-50, this may represent tradeable a price pullback—a retracement of the recent trend’s price move—that may work as a bullish entry if other technical evidence confirms.
During a downtrend, RSI will trend within the lower half of the range (roughly), moving into OS territory frequently (and at times persisting in the OS zone) and finding resistance around 50-65. When RSI finds resistance around 50-65 (sometimes higher given the violent nature of short-squeeze induced bear rallies), this may represent tradeable a price bounce—a retracement of the recent trend’s price move —that may work as a bearish entry if other technical evidence confirms.
RSI, like other indicators, cannot produce perfectly reliable and consistently accurate signals. Like other indicators, it can help identify higher probability trade setups when used correctly and when confirmed with other technical evidence. When considering trade setups in terms of probabilities rather than certainties, traders will find position sizing and risk management to be a vital part of any strategy that relies in part on the RSI.
Overboughtrsi
I might be wrong, but I am bearish, fundamental Last time 1D RSI went this high we had a massive dump, furthermore we had a touch of top of bear flag, and you don't turn bear into bull (all these 20 to 30% pumps) into a few days or weeks, we still getting mt gox dump and the interest hikes
Opendoor to test March 8 lowsBased on historical movement, the peak could occur anywhere in the larger red box. The final targets are in the green boxes. The pending bottom should occur within the larger green box as has been the historical case. Half of all movement has ended in the smaller green box. In this instance, the signal indicated SELL on March 17, 2022 with a closing price of 8.27.
If this instance is successful, that means the stock should decline to at least 8.14 which is the top of the larger green box. Three-quarters of all successful signals have the stock decline 12.193% from the signal closing price. This percentage is the top of the smaller green box. Half of all successful signals have the stock decline 23.192% which is the end point of the black dotted arrow. One-quarter of all successful signals have the stock decline 24.512% from the signal closing price which is the bottom of the smaller green box. The maximum decline on record would see a move to the bottom of the larger green box. These are the same concepts for the levels in the red boxes as well.
The ends/vertical sides of the boxes are determined in a similar fashion. The trough of the decline can occur as soon as the next trading bar after signal close, while the max decline occurs within the limit of study at 40 trading bars after the signal. A 0.5% decline must occur over the next 40 trading bars in order to be considered a success. Three-quarters of successful movement occur after at least 16 trading bars; half occur within 28 trading bars, and one-quarter require at least 32 trading bars.
The black dotted arrow represents median historical movement. Medians are a good metric, but they are just one of many I use when forecasting future movement.
As always, the stock could decline the very next bar after the signal without looking back (therefore the red boxes would not come into play) or the stock may never decline (and the green boxes may never come into play).
EXR In Overbought Territory?Based on historical movement, the peak could occur anywhere in the larger red box. The final targets are in the green boxes. The pending bottom should occur within the larger green box as has been the historical case. Half of all movement has ended in the smaller green box. In this instance, the signal indicated SELL on August 31, 2021 with a closing price of 186.91.
If this instance is successful, that means the stock should decline to at least 184.5 which is the top of the larger green box. Three-quarters of all successful signals have the stock decline 4.067% from the signal closing price. This percentage is the top of the smaller green box. Half of all successful signals have the stock decline 4.743% which is the end point of the black dotted arrow. One-quarter of all successful signals have the stock decline 8.822% from the signal closing price which is the bottom of the smaller green box. The maximum decline on record would see a move to the bottom of the larger green box. These are the same concepts for the levels in the red boxes as well.
The ends/vertical sides of the boxes are determined in a similar fashion. The trough of the decline can occur as soon as the next trading bar after signal close, while the max decline occurs within the limit of study at 35 trading bars after the signal. A 1% decline must occur over the next 35 trading bars in order to be considered a success. Three-quarters of successful movement occur after at least 6 trading bars; half occur within 16 trading bars, and one-quarter require at least 22 trading bars.
The black dotted arrow represents median historical movement. Medians are a good metric, but they are just one of many I use when forecasting future movement.
As always, the stock could decline the very next bar after the signal without looking back (therefore the red boxes would not come into play) or the stock may never decline (and the green boxes may never come into play).
RSI Bearish Divergence At Overbought ResistanceI think we will see a pullback from the 50s all the way back down to the 30s
THETA ShortM pattern forming (with 3 trendline rejections, the 3rd currently rejecting)
Parabolic run up while the rest of the market was either ranging or moving up slowly
Options expired yesterday, so could see a further move downwards as we have seen in the past after options expire
Nearing the end of the week/month
Its currently the weekend where we usually see a correction of the weeks bullish movement
2 strong rejections of the $14.50-$15.00 supply zone on 23rd and 24th March
BTC is currently still in a range between $50-$55k (current price is $54k)
Daily/3D/W RSI still in heavy overbought territory at 70 and above
RUNEUSD Short Reasons to sell
Overextension of the RSI on the 4hr
Bearish DIV on 1hr and 2hr
Last time we saw a move like this was 04 Nov 2020 with a 20% correction happening
Strong resistance at $6
Head and shoulders still intact (but subject to change as we are in a bull run and this is a bearish pattern) low success rate in bull runs
Could see price revisit $4.80
Reasons to buy
Very strong bullish daily candle with a breakout of the descending channel
Doji at support level on 25th March
Good news came out in regards to ASGARDEX/Multichain going live soon
