Relative Strength Index (RSI)
The Relative Strength Index or RSI is a very popular technical indicator used by many traders. We like using RSI, not as much as MACD or more currently we have been using CCI a lot
The idea behind the Relative Strength Index (RSI) is to give you an indication of the strength or weakness of a stock based on current trading periods.
The RSI is a momentum indicator that can be used to measure the overall magnitude of recent changes in price and give you an idea of overbought or oversold conditions. The Relative Strength Index is displayed as an oscillator at the bottom of the chart moving between the two extreme measures of 0 and 100.
Most chart technicians us either a 20 or 30 line break to indicate oversold and either a 70 or 80 line break to indicate an overbought signal. A standard RSI uses a 14 period to calculate the Relative Strength Index.
You can adjust the signal length to move faster or slower by adjusting the period length. You can also use historical chart data to determine what length of RSI gives you the best results on a given security since underlying securities move in different ways and at different speeds. Be warned however that a security can change the way it moves depending on many underlying factors so never blindly trade an optimized (or un-optimized) RSI indicator.
When trading using the Relative Strength Index you would typically look for a pull back when it is showing an overbought reading and a move up when it is showing oversold. Keep in mind that a security can stay in overbought or oversold territory for a period of time.
If the underlying security begins to consolidate around a given price point then the RSI can move out of overbought or oversold territory without ever giving you a good trading opportunity. This is why it is important to use price action, chart patterns, candlesticks and/or trend lines as entry points once the Relative Strength Index gives you a potential entry signal.
You can also use RSI to help you adjust stops on an ongoing trade based on its overbought or oversold signals if you are swing trading. This can help you move your stops closer in case of a move in the opposite direction without having to automatically exit based on the RSI indicator.
We never JUST trade and indicator. We also recommend finding the ones you like best and become experts in them. Don’t try to trade them all!
Originally Published on Trade4Profits.com by Jim Dawson