The RSI technical indicator is considered to be one of the most common on the Forex market. It is included in most trading platforms trading platforms by default, along with the other oscillators.
RSI is represented by a single line and designed to determine the strength of the current trend, as well as its probable point of reversal. RSI compares the absolute value of the price increase on the Forex currency pair over a specified period with a degree of its fall over the period. Results of calculations are displayed as a curve, where the display range can vary from 0 to 100%.
This indicator has a single parameter – the period that determines the length of the time interval which is applied in the calculations. By default, this period 14. This value can change depending on what activity is present on the foreign exchange market. It’s important to take into consideration that in case of an active market, the curve of this indicator will often cross the level 30 and 70%. However, in most cases, these results will not be proper trading signals.
You can increase the period to screen out false signals, for example, up to level 21. However, when the market is calm, the signals will appear very seldom and become completely ineffective. In this case, you need to increase the period.
Divergence in the results of RSI
A significant trading signal is considered to be the divergence, i.e., a discrepancy in the RSI indicators and behaviors of price movement of the currency pair. Though if the price makes several rising peaks and RSI curve shows on its chart in the same period two flowing maximums, it will mean that there is a weakening of the bullish force that may result in a reversal of the current uptrend or cause time correlation movement in the opposite direction. The opposite is right for a bearish trend.
If the market is in the high values of RSI for an extended period, it is overbought, so there is a chance of a reversal in the opposite direction. The guarantee on the overbought signal is the indicator reading of 70%. Alternatively, when the Forex market shows indicator readings lower than 30% for a long time, the market is oversold, i.e. prices are too low and the market may turn up.
You should enter and exit from the market when the indicators leave the overbought or oversold zones.
The central zone is between these two indicators. It is recommended to enter and exit from the market when the indicators leave the overbought or oversold zones. Otherwise, you should refrain from carrying out transactions on this currency pair.
When the RSI is overbought, it indicates that the market has lots of buy positions and, of course, the selling would start in the nearest future. Signal will begin to show if the indicator breaks the level 80 downwards. At the same time, you can start selling. And if the indicator would touch the level 20 from the bottom up, it indicates the oversold state of the market.
How to apply RSI indicator?
- Analysis of the bases and tops of the indicator;
- Analysis of graphical shapes on an indicator chart;
- Analysis of support and resistance lines, also as the level of the indicator chart;
- Analysis of the position of the indicator relative to the midline;
- Analysis periods RSI graph crosses their control levels.
It is necessary to use this indicator along with other tools of technical analysis of the Forex market, because it can often give conflicting signals. Prolonged oversold or overbought value, or strong price fluctuations reduce the effectiveness of this indicator. And, therefore, in a real trading strategy it should be used only after careful preparation.