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Tips on Technicals

Tue, Jun 3rd, 2025
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Tips on Technicals - Relative Strength Index (RSI)

Indicator type: Momentum oscillator
Used to: Measure underlying strength of a market move
Markets: All cash and futures, not options
Works Best: Trending markets, all time frames
Formula: RSI = 100 - 100 / (1 + RS)

RS = Average of the up closes over the past n-periods
    Average of the down closes over the past n-periods

The average of the "up closes" refers to the total changes higher over the past "n" periods (not the last "n" up-periods) divided by "n." The average of "down closes" refers to the total changes lower over the same span.

RSI values are usually smoothed exponentially using the same "n" period parameter. See "Moving Averages" for the exponential smoothing formula.
Parameters:
Foreign Exchange: 5, 9 Stocks: 14 Index: 9, 14
Fixed Income: 9 Commodities 14  
Theory: Prices are generally considered to be elastic in that they can move only so far from a mean price before reacting or retracing. The slope and values of the RSI are directly proportional to the velocity and magnitude of the price move and are extremely helpful in identifying overbought and oversold situations.

The number of periods (days, hours, 5-minutes) was originally based on half of a normal cycle. For example, Welles Wilder originally presumed Gold to have a 28-day cycle so a 14-day RSI was used. This has been replaced by the speed of the market. Faster markets use smaller (more sensitive) parameters.
Interpretation: The RSI value itself ranges from 0 to 100 and support, resistance and trends can be found on the RSI plot. An RSI value above 75 indicates a possible overbought situation and a value below 25 indicates a possible oversold condition. This does not mean, however, that a market will immediately reverse once either of these levels is reached. It is more likely that the market will pause to consolidate, resulting in a more neutral RSI value.

Relatively high RSIs (60-75) normally accompany a rising trend and relatively low RSIs (25-40) normally accompany a declining price trend. Divergences between price action and the RSI plot could signal market reversals.

SIMEX NIKKEI 225 Index

The Nikkei 225 Index was in a strong one year downtrend until mid-1992 (A). At that time RSIs were making higher lows indicating a divergence and underlying strength. The market then broke through its resisting trend line. In mid-1993, the market failed to penetrate resistance at 21,250. Falling RSIs indicated that the market did not have the strength to push through and it soon fell away. In both instances, RSI levels started in the extreme ranges (oversold and overbought, respectively) before reversing their directions.

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