RSI is a robust momentum indicator. Its normal range is 80 ≤RSI ≤20. However oscillations over 80 and below 20 do occur but are temporary and unsustainable. A value of ≥80 shows an overbought status that of ≤20 shows an oversold status. An instrument may be considered overbought anywhere above 40 and below 80, with a value of 40-50 forming a support. An oversold instrument will have a value ranging from 10-50 with 40 acting as a resistance.
RSI is calculated as follows:
RSI = 100 – 100 / (1+RS) ——- RSI = a +b
RS = Average gain/Average Loss
Average Gain = [(Previous Average gain of 14 periods) + (14th Period gain)]/14
Average Loss = [(Pervious Average Loss of 14 periods) + (14th Period Loss)]/14
A high RS value which is the outcome of the prices being bid up will lower the value of quotient “b” and increase the value of RSI. The opposite would the outcome if price was to decrease. Average gain/Average Loss is the average of the last 14 periods and by adding back the value of the 14th period and then taking the average has a smoothing impact on the value of RSI.
A bullish divergence occurs when the instrument makes a lower low but RSI forms a higher low. RSI does not confirm the lower low and this shows a strengthening momentum. A bearish divergence forms when the instrument forms a higher low but the RSI shows a lower low, showing a weakening
momentum. It has to be borne in mind a bullish or bearish reversals do not always signify a reversal is on t
The default look back period for RSI is 14. However, this can be reduced to enhance sensitivity or raised to decrease sensitivity. So analysts and traders may work on a reduced look back period for spot trade. Also the inherent instrument volatility will determine its frequency of attaining the extremities of overbought and oversold values.he onset. For example the price of the
instrument may continue to rise until a top materializes even though RSI is on a bearish outlook. Conversely RSI may give a bullish indication but price may keep on trending to a bottom before the pattern reverses to an uptrend.