What is Relative Strength Index? RSI, How to Trade RSI?
The Relative Strength Index or RSI is a momentum indicator. It is best used in trending market. Trader can get RSI Buy Signal and RSI Sell Signal by using it. The below mentioned is the method of trading with RSI and Moving Average.
RSI is the most used indicator by the traders in the Technical Analysis. It is very reliable indicator in trading Market. The Relative Strength Index (RSI) is one of the most popular technical indicators that can also help you determine overbought and oversold price levels as well as generate buy and sell signals. Before understanding how to trade RSI, we must understand the formula of RSI
The formula of RSI is very simple i.e.
RSI = 100 – ( 100/1+(average of upward price change/ average of downward price change )
For a 14-period RSI, the Average Gain equals the sum total all gains divided by 14. Even if there are only 6 gains (losses), the total of those 6 gains (losses) is divided by the total number of RSI periods in the calculation (14 in this case). The Average Loss is computed in a similar manner.
In simple language , RSI is the calculation of price movement upside and downside. For example if we are using 14 period RSI, that means calculation of price movement of last 14 period. Now we assume that in the last 14 candles, the price advanced in 10 candles and went down in 4 candles. In such condition the RSI will be positive and coming to the downside for making a buy signal. It can be understood best with example below :
Above is the chart of Crude Oil.
Market is Trending upside.
The Exponential Moving Average is above the Simple Moving Average.
RSI 13 is at 60 and RSI 3 crossed above RSI 13.
Buy at $ 59.25 with Stoploss of last low i.e. $ 58.18.
Exit when RSI 13 goes below 80 or RSI 3 crossed below RSI 13.
Profit from the trade : $ 2.85 in just 9 trading session.
What is Overbought and Oversold RSI?
Many traders dont understand the right concept of Overbought and Oversold stock. The RSI indicator has a range from 1 to 100. When the RSI goes below 20 it is called oversold zone and when RSI goes above 80 it is called overbought zone. However, such type of oversold and overbought technique is not reliable.
Because , in a trending up market, if the stock RSI goes below 20 which is traditionally oversold zone, there are some chances that it has lost its upside strength. The other reason is that when the stock is heavy uptrend, the stock RSI doesnt come down to the level of 20 of 30 and in this way the trader losses all the possible trades of buy. As in the picture above, we took a buy when the RSI 13 level was near 60 and RSI 3 crossed above RSI 13. The trade was successful with a profit of $2.85 in just a matter of 8 days.
In the same way, Traditionally Overbought zone is when RSI reading is above 80. When the stock in downtrend, if the RSI goes upside in the range of 80 it can be a short opportunity. However, whenever there is a strong trend, the RSI doesnt come in overbought zone and the trader loose all the opportunities. As we can see below in the chart
Above is the Chart of Crude Oil. We can see above, when the Crude started going down from 73.80 $ the RSI never came back in the overbought zone. Hence, the traditional trader , who was looking for a short sell in the crude in overbought area, just lost all the opportunities as the RSI never came in overbought zone. When the RSI came near 70, which is Overbought area, the trend has already changed and if the trader tried to short sell the crude, he sustained losses in the trade.
In the same way, in an uptrend the RSI never came to the oversold zone and the trader kept waiting for the oversold zone area to take trade. He lost all the opportunities from $45 to $69. Now we would see whether any trade happened in the Trading setup RSI (13, 3) and Moving Average.
We see above there was a trade for Aggressive trader at 66.11 crude and the exit from trade was at $61 , the total profit on the trade is $5. A very Nice Profit. Again , when the trend changed, the SMA and EMA combination , give an early indication that the trend might change or there is weakness in the trend.
In the same way, we took a trade in the buy side which also gave us a good profit of $2.85 in a single trade. The Benefit of using such trading system is that the trader ride the trending market and has potential to get more profit.
Next : How to use Bollinger Bands
Charlie 
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