RSI

RSI is one of the famous momentum indicator. Momentum indicator is used to measure the rate of change of the stock price. The theory behind momentum indicator is simple. It implies that price will go up/down forever continuously. It need to rest for a while especially after strong  movement in one direction. So when we see the sign of a stock want to rest, we sell it. When we see a stock start getting momentum, we buy it. It is very simple.
RSI consists of one line moving around the region, with 70% marked as upper limit, and 30% marked as lower limit.

RSI = 100 - 100/(1 + RS)
where RS = (average gain/ average loss)

There are 2 simple methods in using RSI
1 Monitoring the trend
During an uptrend, if the lowest point of RSI becomes higher and higher, it means the trend become stronger. If the movement of RSI is only above center line (50%) and does not fall below it, it means the stock is in super strong uptrend. It is similar for the situation in downtrend.
 

 
2 Short term buy/sell call
RSI is a sensitive indicator that can be used to earn short term profit from the retract and rebound of the stock price. In an uptrend, when RSI that was always above 70% upper limit start to break the limit line, it means a short term sell call and the stock price want to have a rest since above 70% upper limit is a high tension area. When RSI falls touching 30% and rebound, it is a short term buy call and means the stock price has enough rest and start to move again.
 

However, since RSI is very sensitive and sometimes give a false selling signal especially when RSI oscillate around  70% upper limit. There are two suggestions to solve this problem. First, Refer RSI together with another momentum oscillator: stochastic oscillator. When RSI falls below 70%  together with stochastic oscillator falls below 80%, sell out the stock. Second, Wait 2-3days after RSI leaves 70% upper limit, if there is a sign of rebound across 70%, keep it. If it continues to drop, sell it.

Continue to Step 10-2: "Stochastic Oscillator"

Return to "Library Index"