Hello, Let us talk about 'RSI.' On this chart: We will read about who developed it, how it works, and how it helps us.
Those who read the book called 'New Concepts in Technical Trading Systems' know that RSI was developed by J. Welles Wilder Jr. and published in 1978.
Who is J. Welles Wilder? He is the creator of several technical indicators that are currently the leading indicators in technical analysis software. These indicators include the Average True Range, the RSI, the Average Directional Index, and the Parabolic SAR.
Let us get to RSI: The relative strength index is a technical indicator of the analysis used in financial markets. The relative strength index of the share of internal energy of the share to move upwards or fall due to lack of necessary energy. A tangible example is a basketball. If we drop it from above, in multiple collisions with the ground, it will be at a lower altitude each time and eventually land on the ground. This index has the property of moving averages. It needs the desired period and point number (close, open, and such) to calculate. The big difference is that the mechanism of all moving averages is a sequential and delayed instrument. However, the RSI is an instrument based on moving averages. It is a leading indicator, and this is due to the existence of two levels of support and resistance in the oscillator. When the indicator (line of movement) reaches these levels, analytical signals are issued. If we are trying to identify Oversold and Overbought conditions, our best options would be Stochastic and RSI.
RSI is scaled from 0 to 100.
The readings above 70 show an overbought condition, and the readings below 30 show an oversold condition. When we say overbought or oversold, we are pointing out to the face that the market value might reverse. That is why frequently in overbought scenarios, we obverse a fall, and in oversold scenarios, we can expect a rise in the market value. Keep in mind that some traders prefer using 20 and 80 instead of 30 and 70. They claim this method reduces the chances of errors and gives more accuracy.
If the readings are moving above the 50 (center), then we can expect a rising trend, and when the readings are showing a move below the center, we can expect a falling trend.
We can also use this key indicator to identify potential bottoms and tops in the market. That is why it is a great tool to help with confirming trend formations. If we look at a chart and think we see a bullish or bearish trend, always check the RSI. See if it is above the center or below it. Check for the overbought and oversold situation. This method can reduce our chart reading and trading errors.
How accurate is it? Accurate return signals are rare and difficult to distinguish from false alarms. For example, a false positive is an uptrend and a sudden drop in stocks. A false negative is a situation where there is a bearish cross, but the stock suddenly accelerates upwards. Because this indicator shows moving momentum, when an asset has significant acceleration in any direction, it can stay in an overbought or an oversold condition for a long while. Therefore, the RSI is beneficial in volatile markets where the price of assets alternates between uptrends and downtrends.
Suppose you are interested in using this great indicator. In that case, you can go on your TradingView chart and the dashboard, click on 'Indicators & Strategies' and search for RSI and find the best one suited for you.
Have you ever used this indicator? What do you think the pros and cons are? Let us know your ideas. Good luck.
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Need something to learn? ✅ Let's stop reading the charts for a while and instead learn how to read them. Let us know the title, and we will publish an educational idea about it.
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Another great indicator that helps you in trading:
The Parabolic SAR
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An NFT Manual:
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Don't miss this. Here is a full Trading Flowchart:
I think I would have started saying that the RSI is the average of average_gain/(average_gain + average_loss) over a period. With that you can just figure out the rest. If it goes up, that means that there is more gain and less loss over that period (e.g. 14 days). If it goes down, that means that prices are going down harder than up. If the price goes up, but the RSI goes down, that means that that relative gain is shrinking over the period, ie less and/or shorter green candles relative to red candles, so price action is losing upward momentum: a bearish divergence that tells you that a correction or even reversal down is coming. If the price goes down but the RSI moves up, that the relative gain is increasing over the period, ie less or shorter red candels vs green candles, so that price action is losing downward momentum: a bullish divergence that tells you that a correction or even reversal up is coming. You also have hidden bullish divergences (in an uptrend, higher low in price and lower low in RSI) and hidden bearish divergences (in a downtrend, lower high in price and higher high in RSI). My impression (correct me if wrong) is that you can see a bearish divergence over several higher highs in the price action, until price comes down (e.g. see the daily in BTCUSD, before it went down from the ATH). I remember people writing, a high before the ATH "we saw bearish divergences in the past, and then price went up anyway!". But bullish divergences in a downtrend tend not to accumulate, so just 1 or 2 often (not always, there are false signals) point to a reversal.
nice comment, lemme help you with your divergence approach; take divergence that moves in the direction of the current trend. those divergence that moves against the trend is most likely price correction, you can only confirm them to be reversal if price fail to attain a new high or low. I hope this helps 🙏
pikitote
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@molbioinfo totally. About divergences, and as you said, you can have multiple tops with the divergence screaming at you. You can confirm the divergence with volume (or lack of it). Also, as RSI is a calculation of 2 moving averages, try to adapt this calculation to your chart. BTC have huge numbers, a lot of noise and volatility, you can smooth it out with longer MA (like daily 16 or 21). RSI is not magic, but a very smart indicator.
ncody
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@molbioinfo, Agreed. The one question I have regarding the RSI, though, is why does the RSI change depending on the timeframe you use in the chart? If it goes back 14 days, then shouldn't the RSI be the same whether you're looking at the 1 month,3 month, 6 month, or 1 year?