In June 1978 Welles Wilder's article introduced the Relative Strength
Index (RSI), which is a widespread oscillator. Mr. Wilder's book, "New
Concepts in Technical Trading Systems", also provided step-by-step
instructions on counting and explaining the RSI. The name "Relative
Strength Index" is slightly deceptive, because there is no comparison of
the relative strength of two securities in the RSI, but rather the single
security's domestic strength. "Internal Strength Index" might be a more
suitable name. Two market indices, which are often known as Comparative
Relative Strength, are compared by Relative strength scales.|
RSI is basically a more advanced version of the basic momentum
indicator. RSI addresses the problem of sharp indicator moves that are
caused when the last data point is dropped or a new one added. For
example, a sharp advance or decline 14 days ago will cause sudden shifts
in the momentum line (for a 14 day momentum indicator) even if current
prices are moving very little. RSI smooths out the momentum by introducing
its own variable into the equation - RS.
When the RSI was introduced, Wilder advised to use a 14-day RSI, but
the 9-day and 25-day RSIs were also popular. Moreover it is a chance to
find the period that would be more suitable for you during the experiments
with changing the number of time periods in the RSI calculation. (The
unsteadiness of the indicator depends on the number of days was used to
calculate the RSI - the indicator will be more inconstant, if it was used
the fewer days.)
The RSI arranges between 0 and 100 and it is also named as a
price-following oscillator. The best analysis of the RSI was found out: it
is better to find a divergence in which a new high is being made by the
security, but the RSI is going down to surpass its previous peak. This
divergence means that soon the reversal will come. A "failure swing"
completed, when the RSI turns down and decrease below its most recent low.
The fact that the failure swing happened proves the coming reversal. Mr.
Wilder's described in his book five uses of the RSI in analyzing commodity
charts. You could also use this method as the other security types.
Tops and Bottoms; Before the underlying price chart, the RSI surmounts
above 70 and falls below 30 as usual. Chart Formations; chart patterns,
such as head and shoulders (page 215) or triangles (page 216) that could
or could not be evident on the price chart, are often formed by the RSI.
Failure Swings (which is sometimes called support or resistance
penetrations or breakouts); the RSI exceeds a previous peak (high) at this
moment or falls below a recent trough (low).
Support and Resistance; sometimes more clearly than price themselves,
levels of support and resistance are demonstrated by the RSI. Divergences;
As it was described earlier, divergences happen when the price goes lower
(or higher) and it isn't affirmed by a new high (or low) in the RSI.
Prices usually reform and follow the RSI. It would be good to read the Mr.
Wilder's book, where you could find additional information.