The Relative Strength Index (RSI) is the most popular trading indicator used for analyzing the markets. It helps traders to search for profitable entries and exits. This momentum indicator was developed by J. Welles Wilder Jr. and introduced in his book “New Concepts in Technical Trading Systems”.
If you are entering the diverse landscape of technical trading but do not know how to read the Relative Strength Index, worry not. In this article, we will discuss in detail how you can read the RSI for better entries and exits.
Interpreting RSI Signals
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Overbought and Oversold Conditions
In trending markets, the Relative Strength Index can remain overbought or oversold for extended periods of time. You must keep in mind that an RSI above 70 suggests that the asset is overbought. On the other hand, if this value is below 30, it indicates the asset is oversold. These levels are typically used in range-bound markets.
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Centerline Crosses
The 50 Relative Strength Index value acts as a midpoint. However, if the value exceeds this number, it indicates increasing bullish momentum. And a cross below 50 signals increasing bearish momentum.
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Divergence
For technical trading, you must be familiar with the two common types of divergence, which are bullish divergence and bearish divergence.
Bullish divergence occurs when the price makes a lower low but the Relative Strength Index forms a higher low. This suggests a potential upward reversal. On the other hand, the bearish divergence happens when the price makes a higher high, but the RSI value forms a lower high. This situation indicates a potential downward reversal.
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Failure Swings
The failure swing patterns within the Relative Strength Index can provide valuable information about trends. By analyzing this data, you can confirm the trend reversal.
Strategies for Entry and Exit
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Trend Aligned Strategy
This strategy suggests that you must look for Relative Strength Index (RSI) pullbacks to overbought or oversold levels in trends. They are potential signals and can offer you valuable insights.
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RSI Range Trading Strategy
The RSI range trading strategy is all about speculating on the RSI value and making a decision accordingly. In sideways markets, you should buy an asset when the RSI crosses back above 30 after being below. On the other hand, when selling, ensure the RSI crosses back below 70 after being above it.
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RSI Divergence Trading Strategy
The RSI divergence strategy suggests keeping an eye out for bullish and bearish divergences. By using this information, you can efficiently find potential entries and exits.
Combining RSI with Other Indicators
To improve accuracy and get the best possible outcomes, you can combine the Relative Strength Index (RSI) value with other indicators, such as moving averages, MACD, trendlines, or volume analysis. In this way, you can get more information about the market and make successful trades.
Important Considerations
Knowing how to read the relative index (RSI) is not enough. Keep in mind that these signals are more reliable when considered with the overall market context. Therefore, you must combine RSI with other indicators and always use risk management techniques, especially in trending or volatile markets.
