What is rsi in stock market

Notice how the price is making higher highs but the RSI line is making lower lows. This is a warning sign before the large decline in price that follows.

In the chart below you can see that the price makes a lower low but the RSI line makes a higher low. This is a bullish signal. It shows that strength is coming back into the stock before it starts a new uptrend. The price does not have to make a higher high or lower low for divergence to happen.

If the price highs or lows are equal but the RSI line is not, it is still a form of divergence. This type of divergence is known as exaggerated divergence. In the chart below you can see that the lows are equal but the RSI line makes a higher low. Bearish divergence tells us that the price action is weakening and may not have the strength to continue advancing. It may be time for the trend to change from the upside to the downside. Bullish divergence tells us that strength is coming back into the stock and it may be time for a reversal from the downside to the upside.

As a savvy investor you must always be aware of the big picture. In other words, using bullish signals when the price is in a bullish trend and bearish signals when a stock is in a bearish trend will help to avoid the many false alarms that the RSI can generate. Generally, when the RSI surpasses the horizontal 30 reference level, it is a bullish sign, and when it slides below the horizontal 70 reference level, it is a bearish sign.

Put another way, one can interpret that RSI values of 70 or above indicate a security is becoming overbought or overvalued and may be primed for a trend reversal or corrective price pullback. During trends, the RSI readings may fall into a band or range. During an uptrend, the RSI tends to stay above 30 and should frequently hit During a downtrend, it is rare to see the RSI exceed 70, and the indicator frequently hits 30 or below. These guidelines can help determine trend strength and spot potential reversals.

The opposite is true for a downtrend. If the downtrend is unable to reach 30 or below and then rallies above 70, that downtrend has weakened and could be reversing to the upside. Trend lines and moving averages are helpful tools to include when using the RSI in this way.

A bullish divergence occurs when the RSI creates an oversold reading followed by a higher low that matches correspondingly lower lows in the price. This indicates rising bullish momentum, and a break above oversold territory could be used to trigger a new long position. A bearish divergence occurs when the RSI creates an overbought reading followed by a lower high that matches corresponding higher highs on the price.

As you can see in the following chart, a bullish divergence was identified when the RSI formed higher lows as the price formed lower lows.

This was a valid signal, but divergences can be rare when a stock is in a stable long-term trend. Using flexible oversold or overbought readings will help identify more potential signals. Using the RSI in this way is very similar to drawing trend lines on a price chart. Like divergences, there is a bearish version of the swing rejection signal that looks like a mirror image of the bullish version.

A bearish swing rejection also has four parts:. The following chart illustrates the bearish swing rejection signal. As with most trading techniques, this signal will be most reliable when it conforms to the prevailing long-term trend. Bearish signals during downward trends are less likely to generate false alarms.

The result of that calculation is the MACD line. The RSI was designed to indicate whether a security is overbought or oversold in relation to recent price levels.

The RSI is calculated using average price gains and losses over a given period of time. The default time period is 14 periods, with values bounded from 0 to These two indicators are often used together to provide analysts with a more complete technical picture of a market. These indicators both measure the momentum of an asset.

However, they measure different factors, so they sometimes give contradictory indications. For example, the RSI may show a reading above 70 for a sustained period of time, indicating the security is overextended to the buy side.

At the same time, the MACD could indicate that buying momentum is still increasing for the security. Either indicator may signal an upcoming trend change by showing divergence from price the price continues higher while the indicator turns lower, or vice versa.

The RSI compares bullish and bearish price momentum and displays the results in an oscillator that can be placed beneath a price chart. Like most technical indicators, its signals are most reliable when they conform to the long-term trend. True reversal signals are rare and can be difficult to separate from false alarms.

A false positive, for example, would be a bullish crossover followed by a sudden decline in a stock. A false negative would be a situation where there is a bearish crossover, yet the stock suddenly accelerated upward. Since the indicator displays momentum, it can stay overbought or oversold for a long time when an asset has significant momentum in either direction. Therefore, the RSI is most useful in an oscillating market where the asset price is alternating between bullish and bearish movements.

Then the RSI line breaks to the downside, giving us the first short signal. Two periods later, the RVI lines have a bearish cross. This is the second bearish signal we need and we short Facebook, at which point the stock begins to drop.

After a slight counter move, the RVI lines have a bullish cross, which is highlighted in the second red circle and we close our short position. This trade generated a profit of 77 cents per share for a little over 2 hours of work. Facebook then starts a new bearish move slightly after 2 pm on the 21 st. Unfortunately, the two indicators are not saying the same thing, so we stay out of the market.

Later the RSI enters the oversold territory. A few periods later, the RSI generates a bullish signal. After two periods, the RVI lines also have a bullish cross, which is our second signal and we take a long position in Facebook.

Just an hour later, the price starts to trend upwards. Notice that during the price increase, the RVI lines attempt a bearish crossover, which is represented with the two blue dots.

Fortunately, these attempts are unsuccessful, and we stay with our long trade. Later the RVI finally has a bearish cross, and we close our trade. To enter a trade, you will need an RSI signal plus a price action signal — candle pattern, chart pattern or breakout.

The goal is to hold every trade until a contrary RSI signal presents, or price movement confirms that the move is over. The chart starts with the RSI in overbought territory.

After an uptrend, BAC draws the famous three inside down candle pattern, which has a strong bearish potential. With the confirmation of the pattern, we see the RSI also breaking down through the overbought area.

The price starts a slight increase afterward. Perhap we wonder if we should close the trade or not. Fortunately, we spot a hanging man candle, which has a bearish context. Notice the three blue dots on the image. These simple dots are enough to confirm our downtrend line. After we entered the market on an RSI signal and a candle pattern, we now have an established bearish trend to follow! Later on, the trend resists the price rally yellow circle , and we see another drop in our favor.

After this decrease, BAC breaks the bearish trend, which gives us an exit signal. We close our position with BAC, and we collect our profit. This trade made us 20 cents per share. If you are new to trading, combining the relative strength index with another indicator like volume or moving averages is likely a great start.

Pairing with the indicator will give you a set value with you can make a decision. It also removes a lot of the gray areas associated with trading. Once you progress in your trading career, you may want to look to methods using price action that are more subjective. At this point, you may be able to apply techniques specific to the security you are trading, which could increase your winning percentages over time.

The textbook picture of an oversold or overbought RSI reading will lead to a perfect turning point in the stock. This is what you will see on many sites and is even mentioned earlier in this very post. As you see, there were multiple times that BFR gave oversold signals using the relative strength indicator. The stock continued higher for over three hours. Simple, you have to include a stop loss in your trade. This will be a common theme as we continue to dissect how the RSI can fail you.

The tricky thing about divergences is that the reading on the RSI is set by price action for that respective swing. Unfortunately, there are times where the price action itself changes from one of impulse to a slow grind. To this point, look at the above chart and notice that after the divergence takes place the stock pulls back to the original breakout point.

But then something happens, the stock begins to grind higher in a more methodical fashion. What it means is that you should take a breath and observe how the stock behaves. If the stock beings to demonstrate trouble at the divergence zone, look to tighten your stop or close the position. However, if the stock blasts through a prior resistance level with a weaker RSI reading, who are you to stop the party?

In some RSI examples, you may find scenarios where the indicator bounces from below 30 to back above 70 violently. Well, all you have to do is buy the low reading and sell the high reading and watch your account balance increase. Not exactly. There are times when the ranges are so tight you might get an extreme reading. But it might not have the volatility to bounce to the other extremity. So, like in the above example, you may buy the low RSI reading but have to settle for a high reading in the 50s or 60s to close the position.

By now we hope you have a much better understanding of the relative strength index indicator. Here are a few important takeaways to remember for this tool:. On that note, if you are interested in a master class on the relative strength index , feel free to visit our friends over at Mudrex. To practice all of the trading strategies detailed in this article, please visit our homepage at tradingsim.

As with any strategy, we recommend a minimum of 20 trades before employing real money. Want to practice the information from this article?

March 3, at am. August 4, at am. You define a downtrend when the RSI breaks below So when i look above at the chart of VLRS, assuming its a day chart, i see between 17 en 18 2 breaks below 33,33 and 2 times the stock went up. So the question is: do you go long when the RSI breaks 66,66 or do you go short? September 5, at am.