The Relative Strength Index, or RSI, is a popular tool that traders use to spot buying and selling opportunities in the stock market. It’s a type of momentum indicator, which basically means it looks at how fast and how much a stock’s price has been changing. This helps investors figure out if a stock might be overbought (too expensive) or oversold (too cheap).
What Is RSI?
RSI is shown as a line graph that moves between 0 and 100. If it’s above 70, the stock might be overbought. If it’s below 30, it could be oversold. This indicator was created by J. Welles Wilder Jr. in 1978, and it’s now available on most trading platforms.
How RSI Works
RSI compares the strength of a stock on days it went up versus days it went down. If the stock has more strong up days, the RSI goes up. If it has more down days, the RSI falls. When you use RSI along with other indicators, it can help you decide when to buy or sell.
Calculating RSI (Made Simple)
RSI is calculated using the average gains and losses over a period of time (usually 14 days). The math behind it is complex, but most platforms do it for you. The key takeaway is this: the more a stock rises without a break, the higher the RSI. If it keeps falling, the RSI drops.
Using RSI on Charts
Traders often place RSI below the stock price chart. It moves higher when the stock goes up and lower when the stock drops. If RSI stays above 70 or below 30 for a long time, it might mean the stock is trending strongly.
Why RSI Is Useful
- It helps spot when a stock might reverse direction.
- It shows possible entry or exit points for trades.
- It confirms if a stock is trending or moving sideways.
Also Read: How Did Tech Stocks React to the Recent Earnings Reports?
Adjusting RSI for Trends
In strong trends, RSI might not always hit the usual 70 or 30 levels. For example, in a downtrend, RSI may peak at 50 instead of 70. So, traders sometimes adjust these levels based on the trend.
RSI Buy and Sell Signals
- Bullish Signals: RSI dips below 30, then climbs back up. Or, RSI bounces at 40–50 during an uptrend.
- Bearish Signals: RSI rises above 70, then drops. Or, RSI tops out at 50–60 during a downtrend.
Understanding RSI Ranges
- In uptrends, RSI usually stays above 30 and often reaches 70.
- In downtrends, RSI stays below 70 and often hits 30. This helps traders understand how strong a trend is and if it’s likely to continue.
Also Read: What Small-Cap Stocks Could Explode This Year?
RSI Divergences
A divergence happens when price and RSI go in opposite directions. For example:
- Bullish Divergence: Price makes a new low, but RSI makes a higher low. This may signal an upward move.
- Bearish Divergence: Price makes a new high, but RSI makes a lower high. This might signal a drop.
Positive and Negative RSI Reversals
- Positive Reversal: RSI makes a lower low, but price makes a higher low. This could mean a bullish move.
- Negative Reversal: RSI makes a higher high, but price makes a lower high. This might mean a bearish shift.
RSI Swing Rejections
- Bullish Swing Rejection: RSI drops below 30, climbs back up, dips again (but not below 30), then breaks its recent high.
- Bearish Swing Rejection: RSI goes above 70, drops below it, rises again (but not above 70), then falls past the recent low.
RSI vs. MACD
RSI and MACD are both momentum indicators but measure different things:
- RSI shows if a stock is overbought or oversold.
- MACD tracks changes between two moving averages. Sometimes they agree; sometimes they don’t. Using them together gives a fuller picture.
Limitations of RSI
- RSI works best in sideways or range-bound markets.
- It can give false signals during strong trends.
- Overbought/oversold conditions can last a while.
Also Read: How Do You Buy Your First Stock Step-by-Step?
What RSI Number Should You Use?
- 14-period RSI is the standard and suits most traders.
- Shorter (5–9 period) for fast, day trading signals.
- Longer (21–30 period) for long-term investors.
Good RSI Levels
- Below 30 = Possibly oversold (might be a good time to buy).
- Above 70 = Possibly overbought (might be time to sell).
- Around 50 = Neutral.
In short, RSI is a great tool to help you understand market momentum, spot trend reversals, and improve your timing when buying or selling stocks. Just don’t use it alone—combine it with other indicators and market knowledge for better results.