What the RSI Indicator Tells?

  • Author

    Coinhunt CC

  • Reading time

    5 min read

  • Published

    6/23/2022

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The Relative Strength Index (RSI) is one of the most popular technical indicators used especially in day trading. RSI is a momentum oscillator that measures the change and speed of price movements in a given time frame. It can be used on cryptocurrencies, forex, stocks, and all other markets. Like most oscillators, the RSI indicator is typically positioned below a price chart.

By determining the momentum of the market, we can find the buy and sell signals with the RSI indicator. Momentum indicators are metrics that measure the change and speed of price movements. It is actually an indicator that tends to drive the price as the momentum changes before the price. That's why the RSI is known as a leading indicator. Day traders can place trade orders by seeing the momentum of the market.


Trading with RSI


The RSI indicator has certain repeatable behaviors that, like other chart patterns, create valuable information for trading. Traders can create a trading strategy with the RSI in several different ways. The RSI indicator oscillates between 0 and 100. The 70 level and 30 levels indicate that an asset has reached the overbought or oversold level.

Oversold (30) signals that the momentum is too weak and will likely start to rise. Overbought (70) indicates that the momentum is becoming stronger than normal and likely to start to decline. When traders see that the RSI indicator comes to the overbought zone and starts to decline, they can open a short position for the relevant asset. Conversely, when the RSI indicator comes to the oversold region and starts to rise again, the investors' idea is to open a long position for the relevant asset.


The 50 level on the RSI indicator is also an important indicator. An upward price trend is confirmed when the RSI crosses from below 50 to above 50, and a downward price trend is confirmed when it crosses from above 50 to below 50.

The RSI is useful in identifying potential entry and exit points, identifying when an asset is oversold or overbought, confirming trend direction, and predicting potential market reversals. Welles Wilder developed the RSI, and many technical analysts, including Andrew Cardwell and Constance Brown, have found new trading signals that the indicator can provide. Wilder introduced the RSI indicator in his 1978 book New Concepts in Technical Trading Systems.

Wilder was a commodity and stock trader. He developed RSI to solve the problems he faced. RSI, developed by Welles Wilder, is one of the most popular oscillator indicators today, trying to determine whether the price of an asset will continue its uptrend or downtrend.


Divergence


We can also trade by looking for the difference between the RSI indicator and the market price. Traders look for situations where momentum moves in the opposite direction of price. A bearish divergence occurs if the RSI falls even though the price is rising, and a bullish divergence occurs if the RSI rises while the price is falling. We would theoretically expect a price reversal when a divergence occurs. Disagreements and divergences provide short-term trading signals.



Best Settings of RSI Indicator


The RSI indicator can be used on all bar chart timeframe and candlestick charts. You can use the indicator in all timeframes including months, weeks, days, hours, and minutes. The smaller the time frame, the more short-term signals the RSI indicator gives and the more volatile it becomes. The standard RSI setting is 14 periods. Some traders may prefer to use this indicator with specific timeframes such as 9 periods, 2 periods, 50 periods. There is no such thing as the best setting as there are many different strategies.

The default lookback period for RSI on technical analysis sites is 14 and the Average is 3 periods by default. Decreasing the look-back time will increase the sensitivity while increasing it will decrease the sensitivity.


·        Short-term intraday traders may prefer to use lower settings with periods usually in the 9 to 11 range.

·        Medium-term swing traders usually use the default period setting of 14.

·        Longer position traders, on the other hand, generally prefer to set it high in the 20-30 range.


Is RSI Reliable?


RSI is one of the leading indicators, not the lagging indicator. Leading indicators are less reliable and can often produce false signals. The RSI indicator cannot consistently successfully signal price turning points in the markets. Although the indicator signals success, it cannot predict the size of the next price move.


Difference Between Stochastic and RSI


Stochastic and RSI oscillators are among the most popular indicators for both technical analysis and momentum. Since the two indicators work with different mathematical formulas, they will produce different results. The stochastic oscillator evaluates the closing price in a given time frame based on the lowest and highest value. The RSI indicates a rarer overbought and oversold zone than the Stochastic. Stochastic provides more trading opportunities while also providing more false signals.


Which Indicator Is Used With RSI


While using the RSI indicator for day trading, you should also use other technical indicators to complement the RSI. The indicators we will use can again be momentum indicators. Moving average crossovers and moving average convergence divergence (MACD) are the preferred indicators to be used in conjunction with the RSI. Exponential Moving Average is also one of the indicators that help validate the RSI indicators.

Technical analysts consider the RSI to be used as a validation tool along with other indicators that give insight into market behavior. The RSI indicator alone does not mean much.


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