Relative Strength Index, or RSI in English, is a momentum indicator that measures the speed and rate of change of stock prices. The Relative Strength Index was proposed by J. Welles Wilder Jr.. It uses the growth or loss of stock prices within a certain period of time and uses a certain calculation formula to obtain a value between 0 and 100. It is generally believed that when the relative strength index exceeds 70, the stock is in an overbought state and the stock price is overvalued; when the relative strength index is below 30, the stock is in an oversold state and the stock price is undervalued. The evaluation range value of 30/70 can sometimes be adjusted according to the stock price trend, for example, adjusted to 20/80. Source: IBKR For the most part, the RSI usually moves in line with the stock price. However, sometimes divergence occurs, which requires investors to have sufficient experience to evaluate the price fluctuation trend indicated by this trend. It should be noted that the calculation of the Relative Strength Index only uses stock price profit and loss data over a period of time. Therefore, when you evaluate the purchase or sale of a stock, you still need to combine more financial indicators to make a comprehensive judgment. This article uses Apple stock (AAPL) as an example and is not intended to lead you to buy the stock. Remember: There are risks in the stock market and investment needs to be cautious. When the RSI is below 30, the stock is considered to be oversold, that is, the number of sellers of the stock currently exceeds the number of buyers, the price is close to the bottom price, and there may be a bottoming trend, and the stock price is also considered to be undervalued. For some investors, it is a good time to make a "buy low, sell high" investment. The 30/70 indicator combination can be adjusted according to the actual trend of the stock price. For example, when the RSI value of a stock is around 70 for a long time, the indicator can be adjusted to 80 to judge the stock price trend. Similarly, the downward indicator can be adjusted to 20 to judge the trend. 2. Divergence Relative Strength Index divergence refers to the inconsistency between the stock price trend and the RSI indicator trend when using the Relative Strength Index for technical analysis. This divergence is often viewed as a potential trend reversal signal. Divergence can be divided into two types: top divergence (Bearish Divergence) and bottom divergence (Bullish Divergence). Top divergence occurs when the stock price reaches a new high but the RSI does not. This means that although the price is rising, the upward momentum is weakening, which may indicate a downward trend in the stock price. Top Divergence (Graphic from IBKR) Bottom divergence occurs when the stock price reaches a new low but the RSI does not. This indicates that although the price is falling, the downward momentum is weakening, which may indicate an upward trend in the stock price. Bottom divergence (graph from IBKR) 3. Failure Swing The Relative Strength Index's failed swing is a special pattern in the RSI indicator that is used to predict possible reversals in the market trend. It is independent of price action and is based solely on changes in RSI values. Failure swings can be divided into two types: Failure Swing Top and Failure Swing Bottom. Failure Swing Top: A Failure Swing Top is formed when the RSI first crosses 70 (entering overbought territory), then falls back, then rises again but fails to surpass the previous high, and subsequently breaks below its low between these two highs. This is considered a sell signal, suggesting a possible downward trend. If you look at the RSI graphically, its shape is similar to the letter "M". Failed Swing Top (Graphic from IBKR)
Failure Swing Bottom: A failure swing bottom is formed when the RSI first falls below 30 (entering oversold territory), then rebounds, then falls again but fails to break below the previous low, and then rises above the high between the two lows. This is considered a buy signal, suggesting a possible uptrend. Its RSI graphic pattern resembles the letter "W". Failure Swing Bottom (Graphic from IBKR) Both types of failure swings provide potential trading signals, but need to be treated with caution and are best used in conjunction with other technical analysis tools to improve the accuracy of trading decisions. What are the limitations of using the Relative Strength Index? The Relative Strength Index (RSI) is a widely used technical analysis tool, but it does have some limitations. The relative strength indicator is usually more suitable for short-term investors. For investors who are accustomed to long-term investment, they need to consider more company fundamentals to evaluate the value of a stock, such as profitability, overall business capabilities and other fundamentals. The limitations of the RSI are summarized below: Misleading Overbought/Oversold Zones: The overbought (usually above 70) and oversold (usually below 30) areas of the RSI are not always accurate buy and sell signals. In strong trending markets, the RSI may stay in these areas for extended periods of time without necessarily indicating an imminent reversal. Failure in Trending Markets: In an ongoing bull or bear market, RSI can produce misleading signals. For example, during a strong uptrend, the RSI may continue to show an overbought condition, misleading investors into thinking that the market is about to pull back. Delay in Price Divergence Signals: While RSI divergences can be powerful market turn signals, they are often delayed. This means that by the time the divergence is confirmed, the market may have been reversing for some time. Needs to be used in conjunction with other tools: RSI is best used in conjunction with other technical analysis tools and indicators to enhance the effectiveness of the signal. RSI alone may not provide adequate trading signals. Subjectivity of parameter selection: The calculation of RSI depends on the selected time period (such as 14 days, 10 days, etc.). Different parameter selections may lead to different results, increasing the subjectivity of the analysis. How to view the Relative Strength Index? Interactive Brokers is an international brokerage that provides a wide range of trading and investment services for individuals, professional investors and institutional clients. For a detailed introduction to Interactive Brokers Securities, please read the article "Guide to Depositing and Investing in Interactive Brokers Securities". Here is the IBRK online version as an example: On the IB homepage, log in to your IB account. Find the stock you care about, let's take AAPL as an example here. Find the menu item [Indicators] in the stock candlestick chart. In the [Indicators] pop-up option, enter RSI. Select Relative Strength Index from the search results. This way, the RSI will appear below the candlestick chart. More US stock concepts What are Bollinger Bands and how do I use them? What is Moving Average (MA)? What is the Money Flow Index (MFI)? And How to use it? What is the Federal Reserve Balance Sheet? What are minority interests? How to handle the profits of subsidiaries? What is Shareholders’ Equity? Shareholders’ Equity What is the Price to Cash Ratio (P/CF)? How to calculate? What is Operating Expense OpEx? Operating Expenses What is Cost of Goods Sold (COGS)? How to calculate? What is a Company’s Preferred Stock?