Relative Strength Index (RSI)

The Relative Strength Index (RSI) is an oscillator that measures a particular financial instrument's current relative strength compared to its own price history. The RSI should not be confused with relative strength which rates a financial instrument in relation to a market such as the S&P index.

The RSI is plotted on a vertical scale numbered from 0 to 100. The formula to calculate the RSI is:
                              100-[100/(1+A)] 

where A is the average of the "up" closes over the calculation period divided by the average of the "down" closes over the calculation period.
The "A" for a 14-day period is calculated by dividing the 14-day "up" close average by the 14-day "down" close average. An "up" close or a "down" close is defined as the absolute change in price from close to close.

When the RSI rises above the 30 threshold after establishing a 0 - 30 oversold condition, a bullish signal is generated. Conversely, when the RSI falls out of the 70 - 100 overbought zone, a bearish Event is signalled.

Trading Considerations

The RSI sometimes shows more clearly than the price chart itself the support and resistance lines for a financial instrument. Failure Swings which are also known as support or resistance penetrations or breakouts can be detected by using the RSI. Failure swings occur when the RSI passes a previous high or falls below a recent low.

Divergences (when market trends go in a different direction than market indicators predicted, usually signifying the onset of a trend change) occur when the price makes a new high (or low) that is not confirmed by a new high (or low) in the RSI. Prices usually correct and move in the direction of the RSI.

A financial instrument is considered to be oversold when its RSI falls below 30 and overbought when its RSI rises over 70.