Technical traders need to have an expansive skill set in market patterns, trends, and other such actors that dominate the market.  This helps in making sound trading decisions and bringing in profits for the same. While many tools will help you make decisions by presenting various statistics, you need to be aware of the meaning of multiple indicators to reap the substantial benefits from the same. The most prominent technical indicator is the Relative Strength Index or RSI.

What is the Relative Strength Index? Explain Briefly With Example!

Relative Strength Index or RSI represents a chart indicator that measures speed and change of price movement. RSI is an oscillator because its values oscillate between zero and 100. The asset is considered overbought when RSI values are above 70 and oversold when RSI values are below 30.

RSI indicator looks like:

This financial indicator focuses on the speed or momentum of the prices of a financial instrument’s price trend to technical traders; it is also called a momentum oscillator. The scale on this indicator goes on from 0 to 200, which indicates if a financial instrument is overbought or oversold. During technical analysis, the traders widely use RSI to monitor the momentum, and it is comparable with indicators like Williams %R or the MACD. However, with the plethora of tools, RSI still gets the preference among the traders because of its simplicity and intuitiveness.

Nevertheless, just like any other financial tool is barred by some drawbacks, RSI on its own has some cons. Hence, the relative strength index should not be used alone but as an integrated part of a mindfully crafted strategy for trading. You should combine the different indicators to find out where your fortunes might shine in the market. 

How to read Relative strength index RSI?

To read the RSI indicator you need to identify the RSI value on the chart. If the value is below 50, the trend is bearish, above 50 trends is bullish, above 70 overbought and below 30 oversold. However, if the trend is rising and the strong bullish-bearish invalidation level is around 40 while for a strong bearish trend this invalidation level is 60.

On this image below we can see that when the trend is strong RSI is above 50 but sometimes RSI fall below 50 up to 40:

As mentioned, RSI is a momentum tracker or oscillator. This means that there will be two extremes between which the indicator will go to and fro based on the trend of any financial instrument. The two extremes are 0 and 100, respectively. So if your indicator is on 0, it means the financial instrument has been oversold, while 100 represents that the instrument is overbought.

RSI is an excellent tool that helps you find where the trend for a specific stock is going and the condition of the asset’s prices, along with finding the strength that lies in the price trend. The goal behind RSI is to tell traders if the price for their asset is justified or deceiving. 

To read RSI with acute precision, you should have a comprehensive idea about the meaning that the values 0 and 100 convey and the process behind their calculations. Hence, you must read this guide on RSI till the end to get profits from your technical analysis.

What are the RSI parameters?

The RSI parameters are the indicator scale from 0 to 100 and the signal line. Usually, if the value is below 50, the trend is bearish, above 50 trends is bullish, above 70 overbought, and below 30 oversold.

RSI is a standard tool that helps traders determine if the asset’s price is running or gaining momentum. That leads the technical traders to the discovery of profitable entry and exit points.

To convey this information, RSI comprises of two crucial components in an all-inclusive approach to finding out the best avenues in trade:

• Indicator scale: The RSI has a scale with values 0 to 100 to depict certain situations in a trend. This scale has the markings of the numbers on its Y-axis, and hence it’s a crucial part of the scale.

• Signal line: This line keeps wavering across the scale based on the price trends. This runs along both the X and Y axis to show that the trend and price significantly affect each other. 

How accurate is the Relative strength index?

Relative strength index is not an accurate indicator because it does not predict future price, it shows current trend strength, price speed and helps traders to better spot important time to enter into trade. So, RSI is not a prediction tool to have accuracy.

How is the relative strength index calculated?

To calculate RSI you need to define the past period, calculate average loss and average gain. In the last step, you need to calculate relative strength from average gain and average loss and get a value between 0 and 100.

The calculations for this indicator can put your mind into a whirlwind because of the complexity of the steps involved. Additionally, as technology evolves, technical traders bring their ideas to the table. Hence, the process of RSI calculation will vary depending upon the person that you are consulting with. But fret not! There is much software that will run this calculation automatically for you.

However, it would help if you still pondered about the formula given by J. Welles Wilder Jr. in his seminal creation, “New Concept In Technical Trading Concepts.” This will give you an idea about the formation of RSI. It will also aid in implementing this strategy for trading signals.

The calculation involves the speed and direction of the asset price trend as two main components. Here is the four-step process that you need to follow here:

• Find the lookback period.
• Calculate the average loss over the lookback period and average gain.
• Use step 2 to calculate relative strength from average gain and average loss.
• You have to smoothen out the finding in step 3 to find out the outcome of RSI.

Proceed to read about these steps and know how to implement them:

Step 1: Find RSI past period

The first step is to find data based on historical asset prices and price data of security. To be clear, these steps involve using historical data to find the suitable historical periods that will help assess future price trends of an asset. The process of selecting numbers from a historical period manually is called the Lookback period. 

A standard lookback period gathers data from fourteen sessions of trading on RSI regularly or fourteen weeks for an RSI weekly. If you are more interested in day trading, 14 days is considered the ideal choice.

Hence, you need to find a suitable lookback period that is the perfect fit for the market you indulge in and the psychology of trading to understand things from an enhanced perspective. 

If you choose a lower lookback period, your calculations will be more refined and adapted to the price trends changes. Mostly the 14 day Lookback periods are the default; they deliver good trading signals to help technical traders incorporate the figures into their strategy for winning the trading market. However, suppose you are dealing with a market that is highly fluctuating. In that case, it is recommended that you ensure the lookback period is reduced and the adjustment for trading in the short run.

Step 2: Find average gain and average loss

After acquiring the lookback period, the next step is to find the average loss and average gain against the selected period. Let’s understand this step with an example of a 14 day lookback period.

• Average gain: You need to sum up the total daily expenses in percentage for the last fourteen days and divide the total by 14.

• Average loss: For average loss, sum up all the daily losses in percentage for the last 14 days, and divide the total by 14. The average loss value will be positive but can stoop down to negative when every loss is added up.

Step 3: Calculate RSI

The next step for RSI is to find the relative strength for a selected period. This step is crucial as the final result of the indicator precedes it. 

The average gain and average loss that you gathered in the previous step will come in handy here. The formula goes as follow:

RS= 100 – [100/(1+ (Average Gain/Average Loss))]

This formula will bring the value of relative strength in between the range 0 and 100. Again, remember to implement the positive value for average loss, which will provide a rough interpretation of the relative strength for the price momentum of an asset.

Step 4: Advanced RSI formula

As you acquired only a rough idea of RS in the former step, it is not the ultimate result. This is because technical traders need precise information and not just a massive chunk of data because of the high volatility and the relatedness of the historical momentum and the current momentum.

Hence, to calculate the RSI, Wilder utilized another formula to find a more succinct result. This formula goes as follow:

RSI= 100-[100/1+((Previous Gain*13+Current Gain)/(Previous Loss*13+Current Loss))]

This will come up with a result between 0 &100, and it is the final reading of the process. 

What is a good RSI signal?

The good BUY RSI signal represents strong movement from below 30 levels up to 50 levels. An additional characteristic for a good bullish RSI trend is when the RSI signal line angle is around 45 degrees. The good SELL signal represents strong movement from above 70 levels up to 50 levels where the RSI signal line angle is around 135 degrees.

If you are a trader to aspires to benefit significantly from your investment, it is crucial to understand what each value in this RSI scale means:

• Reading exceeding the 70 mark represents a situation where the asset is overbought. This is not an astute illustrator of reversal, but it tells the traders that inflation is taking over the momentum, but it will not sustain for long.  Hence, many technical traders prefer to sell or short sell their assets during this period. 
•  If the reading on the scale goes below 30, then it means the asset is oversold. This doesn’t indicate that the prices will rise soon, but it tells the trader that the asset holds the potential of being of more value than the market is depicting. Hence, this reading tells traders to buy the stock readily before they become expensive.
• If your scale between 70 and 30 tells that there isn’t any trend persisting in the market and the trade being made is fair compared to the last 14 days.

Can RSI be trusted?

No, RSI can not be trusted like as same as you can not trust any other trading indicator. You can not use RSI as only a trading trigger. However, if you have other triggers such as important price level, trend lines, fundamental data, etc. you can use them in combination with RSI to have better performance.

Any financial tool becomes somewhat doubtful with the readings if it is being used alone and not part of a comprehensive trading strategy. RSI is not immune to this defect. Here are some reasons to justify this statement-

• Firstly new traders in the market are naive, and just by reading the overbought situation on the scale, they pan out that the reversal is inevitable. This can be the case for assets that are not on a spurt and have matured but new and robust assets in the decline phase. Additionally, when the trader is using these signals solely to make all financial decisions, it can lead to massive loss because of fake or misleading alerts. 
• Moreover, several studies indicate that the 70+ oversold range and 30 or lower overbought might not be accurate for the assets that hold a strong position in the market. For example, many experts point out that several assets overbought extensively during uptrends, and at such time the RSI scale is over 50. Conversely, such instruments are also oversold during the downtrend where the RSI scale is lower than 50.

Hence, to make RSI a reliable source, you need other tools to support its findings. Such tools can be charts, patterns, or other indicators. This, combined with different tools, will help you significantly eliminate the false signal generated by RSI.

What can you combine RSI with?

You can combine RSI with MACD,  various moving averages, stochastic indicators, etc.  The best approach is if you determine important price levels using past high and low prices or Fib. levels or Pivot points. Then, you can combine RSI value and important price levels as triggers to enter into trade.

Since the RSI readings can be misleading while being used solely and can lead you to losses or get no gains from profits, you must combine it with other reliable tools.

You can combine your RSI readings with divergence (bearish or bullish) to get a more actual result from the RSI reading. It will also help you accurately define if the asset is on the brink of significant modification in its trend of prices.

Bearish divergence is prominent during uptrends for asset’s price. During uptrends, the price of the assets keeps increasing and staying on the same trail. However, the RSI scale reading shows numbers lower than the previous reading, leading to bearish divergence. In contrast to the bullish divergence, a bearish divergence indicates a downward reversal of the asset’s price.

Bullish divergence dominates a downtrend in asset prices. During this reading, the prices are going down and down. However, the reading on the RSI scale indicates an uptrend, and the security is assumed to have bullish divergence. Thus, bullish divergence is an indication of extinguishing bearish divergence and a reversal in asset prices.

Therefore, the RSI readings of an asset being oversold or overbought when combined with the divergence on the asset’s price trend help get an accurate reading and act as an alibi for the signals. Hence, a combination of different strategies helps produce a more precise reading and has more substance.

You can also combine your RSI readings with other strategic tools and complementary strategies to do an accurate reading. For example, several tools are indicators like the RSI, while others differ because they provide visible results for a price trend.

You can combine RSI with:

• MACD or Moving average convergence divergence.
• Candlestick patterns.
• ADX or Average directional index.
• Support and resistance levels.

Let’s take a more in-depth look into how these tools can improve the RSI readings and support each phase.

How to use MACD and RSI?

MACD and RSI can be used in combination. Both indicators provide similar momentum strength price levels but if you use them in the combination you can decrease the number of alerts, in other words,  remove some false signals.

 MACD is also a famous indicator, just like the RSI. However, it also works with momentum and guides the traders onto the path of profit. Its working is based on exponential moving averages that determine the hold of the price trend of an asset along with the momentum.

MACD is almost similar to RSI as it also determines if an asset is in an uptrend or downtrend and if there is a chance for reversal. However, though being the same in conclusion, the steps and calculations of MACD differ drastically from that of the relative strength index.

Hence, since the end goal of both RSI and MACD is the same but involves a different process, it is better to use them together to validate the conciseness of the signals and get more solid results. Moreover, if both the indicators are on the same page, they can help traders make a more robust stance in the market and aid their sell, hole or buy positions.

Does RSI have support and resistance?

RSI has support and resistance and they are 0 and 100. However, RSI oscillates between real price support and resistance on the chart. If we have an uptrend RSI will be above 40 and the majority of the time above 50.  If we have a downtrend RSI will be below 60 and the majority of the time below 50.  

These are the most commonly used concepts by technical traders. The base plan of this indicator is to determine the stage at which the asset’s prices can face a reversal.

• Support is the concept that determines if there is an intense pressure to buy any financial security or instrument. Hence, if the price goes down for any asset, the investors deluge to buy it. Then, due to the creation of high demand, the price will be triggered and pushed into a bullish reversal, hiking the prices of that asset again.
• On the other hand, the resistance concept indicates strong sell pressure for an asset or security. Hence, as the prices surge, the holders will start selling their shares to rake in profits. Due to low prices, more and more short sellers enter the market and lead to the loss in momentum of the uptrend, triggering a bearish reversal for the same.

In conclusion, support and resistance are the points on any asset’s price chart where the probability of a reversal is possible. The foundation of this concept is created through buying and selling pressure of the securities.

When combined with RSI readings, support and resistance can help you land on more accurate results. Here are some basic rules on how you should utilize this tool to your advantage.

• The price is somewhere around a support level when the RSI indicator has landed on an oversold situation. Hence the chances of a bullish reversal are at their peak. Therefore, you need to be prudent in indulging in a bullish trade.
• While when your RSI readings hover around the resistance point, with an overbought reading on the RSI indicator, a bearish reversal is right around the corner. Hence, you should bet on bearish trade to bring in considerable profits. 

Average directional index (ADX) and RSI

ADX is another such indicator that is used with the RSI indicator. It measures the strength of the trend in an asset’s price. Therefore, it is also considered as a verification point for the finding of the RSI indicator.

Read below to find out how ADX works with RSI:

• Since both RSI and ADX give signals about the reversals in the market, it is safer to analyze both results together to find better trade opportunities. 
• When the two signals from RSI and ADX are not in sync, the reading for RSI is also deemed insignificant or less reliable, and you should not make a trading choice based on the RSI results. 

Hence technical traders can strengthen their stance to buy or hold security if there are more similarities between the results of ADX and RSI.

Candlestick patterns and RSI

RSI and candlesticks can be used together as triggers to enter into trade. Candlestick is a commonly used and reliable trading chart used by a majority of traders. The candlestick’s body on the chart determines the various stages in the price behavior of an asset and targeted information about high and low price and open and close positions. Candlesticks can also help find the reason behind a trader’s decisions, further providing information for the future stance of an asset. 

Candlesticks are of two types based on the market psyche:

• Continuation candlesticks patterns.
• And reversal candlestick patterns.

When traders utilize these patterns along with the RSI indicator, they improve the accuracy of trading decisions. Given below are some essentials that help in using the candlestick patterns in combination with the RSI indicator:

• Continuations candlestick patterns: As the name suggests, a continuation candlestick pattern says that a price trend in the market is likely to continue. When the RSI shows an oversold or overbought trend in the market, and you see a continuation candlestick pattern on the chart, it is time to be intelligent with your decisions. Since the results from both the tools are heterogenous, you should refrain from trading at that time.
• Reversal candlestick pattern: Such patterns indicate that odds are in favor of a reversal in the trend of asset’s price. Hence, if your RSI reading depicts an overbought or oversold trend, and you see a reversal candlestick pattern, you can rest assured that the former reading is correct. Hence, the candlestick pattern acts as an auxiliary to the RSI indicator, strengthening the reliability of the results. 

In conclusion, the candlestick patterns are used to determine whether you should be cautious or confident in the RSI indicator’s reading and act as a green or red signal for making trade decisions. 

How to use the RSI strategy?

Here are the names of some trading strategies where the RSI plays a key role.

• RSI Reversal trading strategy.
• RSI Momentum trading strategy.
• RSI Breakout trading strategy.

Once you have learned how to enhance the accuracy of the RSI indicator, its calculations, structure, and foundation, you have to harness this knowledge for effective trading.

To make prudent trading decisions, you must use the signals and indicators mentioned above. It is not a game of hit and trail where you have many chances; once you lose the funds, they will hardly come back. Therefore, before making any decisions based on the results of trading tools, you need to have conclusive knowledge of each instrument and use it as a rung of the ladder to reach the top. 

Now let’s talk about how these strategies help RSI identify set stop-loss levels, take-profit levels, and trade entries.

RSI Breakout trading strategy

Breakout trading strategy is a prominent strategy adopted by technical traders. The gist of this analysis is to trade in the market when the prices at a point breakout beyond support or resistance levels. 

This breakout is accompanied by a dynamic movement towards the direction of the breakout. This explosion in price benefits the traders and helps them earn profits by assisting in the trading decisions. 

Fundamentally, you aim to bring in profits on sentiments of fear (bearish breakout) and ecstatic feeling (bullish breakout) and ride the volatile market to accumulate profits via the market psychology. But, unfortunately, these explosions in price are not stable. Hence, there will be a time when new resistance and support levels will be established, and this wave will lose its speed. In conclusion, you will experience excellent trading time with this strategy in the short run.

The relative strength index plays a significant role in finding the exits and entries when tracking the breakout strategy.  Further, we will find out how one can determine trade entries, exits, take-profit, and stop-loss levels via this strategy and RSI.

Finding trade entry

When the asset is prone to a breakout, the RSI will show a situation that indicates oversold or overbought assets. Thus, in contrast to the previous assumptions, the indication of the RSI condition will show breakout patterns rather than a reversal.

Here is how you can determine the entry for breakout trade with the use of RSI:

•  When the resistance level and asset price are in contact, and there have been multiple instances where the price was nearly 100 on the RSI scale, it shows that the bullish breakout might happen sooner rather than later.  This indicates that it should take a long position in the market.
•  On the other hand, when the price is near the support level, there have been multiple chances where the reading on the RSI scale was near 0. This is an indication of a bearish breakout. Therefore, the trader should take a selling or short selling position in the situation.

In conclusion, the crucial factor that is always included in this study is the support and resistance level where the breakout is most likely to happen. To practice this strategy, you can use traditional support and resistance levels like extension levels, pivot points, Fibonacci retracement, extension levels, etc., or utilize chart patterns like the wedges, flag pattern, head, and shoulders pattern, etc.

Finding stop-loss target

The step-loss target can be placed easily when there is a trade breakout because if it retraces back to previous support and resistance levels, then breakout isn’t taking place. Hence the guidelines for setting the stop-loss target for your trade is as follows:

• When you are in the market for long trade, the stop loss point will be somewhere behind the resistance level, near the break from where you entered the current trade.
• On the other hand, when the market is facing short-sell trade, the stop loss will take a position above the support level from the breakthrough you entered into the trade.

Moreover, once the price is nearing your trade position, you can put a trailing stop loss. This will allow you to drown in profits as you dive deep into the volatile price wave after the breakout while not enduring the risk of losing funds.

Establishing take profit target

The breakout intends for you to ride the explosive price wave and gain more than you expect. Therefore, it is futile to say that the take-profit level is an integrated part of this strategy. However, you should keep in mind not to set up too modest targets, as most experienced traders expect at least a 10% return from this strategy. 

• In long trade, when the bullish momentum starts fading away, you will witness divergence on the price chart, and as such, you should consider closing the trade for gains. 
• When the market is in a short sell position, the bearish momentum starts falling, you will see divergence on the chart, and it is a sign that a breakout pattern is slowing down. It is thus a sign for you to get profits by closing off the short position.

Hence, when there are breakouts in the trade, along with the readings of the RSI tool, other tools like Fibonacci Retracement and Extension levels can help you determine the take profit targets.

RSI Reversal trading strategy

This strategy works like magic for mature assets and the current price modifications, which are not backed by the fundamentals that inculcate the thought in the mind of investors that a pause in the trend is bound to be. 

From the viewpoint of a technical trader,  it is evident that RSI plays a pivotal role in determining price trends in the market. It is so because this is a simple tool that indicates whether an asset is overbought or oversold. However, it’s not such a complicated scale and helps determine the possibility of a reversal.

We also discussed how RSI is not reliable enough when being used on its own. Hence it needs to be supported by complementary trade tools like chart patterns, candlestick patterns, support, and resistance to being more content with the results of the trading strategies.  For instance, if the chart shows that a change in the bullish market is likely to happen, and RSI also shows an overbought position, the changes for big success on a short-sell trade are highly expected.

Furthermore, when there is a chance for trading reversal via RSI, bullish and bearish divergence can gain more astute knowledge. They curb the high prices and highs. The lows show that the overbought or oversold position will likely bring a reversal. Hence, this combination with RSI is unbeatable.

Now it’s time to discuss how trade can exit and enter works with the reversal trading technique through the readings of RSI.

Establishing trade entry

It is now conspicuous that using the divergence technique is the most successful when determining trade reversals. So let’s have a look at how this strategy can be used to enter a trade position.

• When the market prices rise, the RSI will indicate an overbought situation, but the chart depicts that the prices are growing more rapidly than the previous high. Hence you should look for signs for selling short.
• On the other hand, when the market is seeing prices lower, the RSI will show the likelihood of a bullish reversal, then you should monitor the market and enter the trade as soon as you confirm a positive outcome.

To find the confirmation signals for a trade entry, you can use various tools previously evaluated. For example, you can use candlestick patterns or incorporate chart patterns to define the accuracy of the price trend.

Establishing stop-loss target

A stop-loss target in this strategy is placed where the signs of a reversal dominating your trade turned out to be a fluke. Hence, you will do the opposite of what we did to prove an entry point to establish the position. 

• If the market is anticipating bearish trade, the stop point will be set up at some points beyond the previous high status. If the price still moves beyond this point, then the reversal forecast gets turned around, and you need to exit the trade promptly to minimize losses.
• On the other hand, if the market is anticipating a bullish price trend, you need to place your stop position some points below the recent low. If the price goes below this point, your reversal forethought is not verified, and you need to get out of the trade.

Here are some ways you can also utilize RSI for scooping out the loops in your reversal hypothesis.

• When making a bearish trade, after the divergence at the starting point, if the RSI scale depicts an overbought inference and the reading bounces back to an even higher position, it represents the end of divergence on the chart. This invalidates your reversal postulation.
• On the other hand, if you are making bullish trade, and the RSI reading shows an oversold situation that is less than before, your reversal postulation is again proved wrong. Hence, closing the position is a prudent choice here. 

Establishing take profit target

The technical traders who enjoy the reversal trade also aim to acquire justified returns from their investment. Though the actual value depends upon the extent of trade and risk taken, a profit of 5%-10% is an acceptable rate. These profit targets are always set lower than the breakout points because of the looming threat of reversal.

To make your stance stronger in the market, here are some tactics you can use to determine a profit target.

• Once you have pushed your trade into a profitable position, you should find signs of divergence contrary to the trade entry. For instance, if you were trading based on bullish divergence, find bearish divergence, and once it is evident for it to occur, close your trade and gain profits. 
• You can also use tools like Fibonacci Retracement and Extension levels for finding your exit prospects. Hence a confluence of RSI and these strategies will enable better exit strategies.
• Whenever you use these strategies for trade, the chart patterns will convey some high-level rules about establishing your trade profit point. Hence, using them can help in the curation of exit plans.

RSI Momentum trading strategy

The momentum trading strategy is the most uncomplicated trade strategy around. The base of this strategy is “buy low, and sell high,” which is widely practiced in the trade market. People who lean towards short selling will adopt the contrary strategy “sell high, and buy low.”

As the RSI is also a momentum oscillator, it blends perfectly with this strategy. RSI depicts the oversold and overbought price trends, showing that the price modification is not actual and will alter a bit. However, the market can often contradict this reading.

Nevertheless, RSI still has the trust of the traders when it is combined with some subtle changes and tools; it can deliver accurate results. This is the most relevant for matured securities.

Let’s find how you can find suitable entry and exit points with RSI and Momentum Trading Strategy.

Establishing trade entry

RSI is a marvelous tool for finding a trade entry for momentum strategy in several situations.  While when the prices are on the rise, it will always indicate an overbought condition, and unwavering low price trends will mean oversold situations. 

This strategy is only ideal for the range-bound market. To find the range to implement this tool, you can use envelope trading indicators and pricing channels like Donchian or Bollinger channels.

Once you have chosen your range, you can implement this strategy without any hurdles along the way.  You can enter in the trades of momentum using the following principles:

• You should take a long position when the asset’s price ranges near the support point and RSI is insinuating an oversold situation.
• On the contrary, you should take a short position when the RSI shows an overbought situation and the asset’s price is fluttering around the resistance point.

Establishing stop-loss target 

The momentum trading strategy is ideal for short-term trades and the best for day trading. During such trades, finding a stop-loss strategy derails from all our previous methods as the mindset here is to stick with the flow.

You don’t need to alter the fundamental of the strategy but incorporate it with these guidelines:

• The first step is to set up a stop loss some points above the resistance line while trading in the bearish market. This acts as a sheath from the losses if there is a breakout from your chosen range.
• If you are doing trade in the bullish market, the stop loss should be set up below the support points to curb losses when a bearish breakout occurs.

If you are a trader interested in highly short trading or scalping and you trade in high volumes, consider setting up your stop loss point somewhere around 5% or above or below the entry points to prevent any losses when the price momentum dwindles. 

The RSI will move to its normal range of 30-70 before the reversal occurs. This shows the price is prone to breaking out beyond the range. Hence, giving you additional signs to exit the trade.

Establishing take profit target

Since the price changes are bound by range in this strategy, it would be futile to expect the kind of profits traders gets from reversal or breakout trading. In a general sense, anticipating a 5% profit is reasonable. How much returns you get in reality depends upon the risk tolerance, volume, and the type of asset. Most of the scalpers take a basic standpoint of 2% as a strong exit point.

Here are the tactics that you can use to determine trade profits to make good profits through this strategy:

• When making bearish trade, you should put your stop loss point somewhere around the support range. Hence, the oversold RSI indication will solidify your position when the price comes up to your exit target.
• On the contrary, when you are making bullish trade,  you should set the profit target below the resistance line and exit the trade when the RSI indicates overbought.

Pros and cons of RSI

Like any tool and instrument have their own strong and weak points, and in the same way, RSI also has its own set of pros and cons. It is without any doubt an excellent tool to determine the momentum of the asset’s price, but if used without auxiliaries as the cons of the indicator kick in.

This section will comprehensively explain the disadvantages and advantages of relative strength indicators. Then, when you know where it falls short, you can use the other strategies to compensate for it. 

What is the benefit of RSI?

These are the strong points of this widely used tool:

1. When the RSI indicator is combined with the results from other effective strategies and tools, the results are relevant.
2. RSI is an intuitive tool that traders can easily understand at all levels.
3. If you are a day trader, RSI will be beneficial for your trading decisions.
4. RSI acts as a confirmation for predicting reversals or breakouts for other strategies.
5. These RSI signals are also relatively easier to combine with different strategies and trading situations.

Cons of RSI

The primary cons of RSI are as follows:

1. It can often deviate from the signals of different instruments and strategies.
2. RSI can determine the chances of a reversal but not give an idea about the exact points.
3. If the trends in the market are going strong, the oversold and overbought indicators can be negatively affected. For instance, in an overbought situation, the prices might amp up way higher than expected, and you will fail to leverage those profitable periods. 
4. RSI is only focused on asset price momentum while a heap of other factors leads to a profitable trade. 
5. RSI is not as effective when used without other tools because the market can often be in contrast to the reading of RSI. 

Conclusion

A relative strength index is a crucial tool for technical analysis. Although it was created in 1978, it has been modified drastically to fit the current trading scenarios over the years. This includes variations in signals, calculations, and smoothing formulas. This makes RSI a tool with the innate ability to guide a technical trader through the stream of hurdles in the market.

It uses RSI to create any exit or entry plan that needs you to comprehend every measure and result that the tool lands on. For starters, it is a tool that is essentially used for following the price trend of an asset or the momentum. If the scale point at 70 or above indicates an overbought situation, a range of 30 or below shows an oversold condition.

RSI is ancient and reliable but not as reliable when used individually to create entry and exit strategies. However, it works great to provide you with a confirmation and verify your forecast about an asset analysis when you are trading. Traders are only dependent on RSI to derive the primary strategy for entering or exiting a trade. Therefore, it is more applicable to day traders. This helps you make precise trading decisions when used with indicators like resistance and support, MACD, candlestick patterns, ADS with the RSI strategy.

The RSI bears succinct results when you use several other technical indicators to land on a conclusion. This helps traders establish stop-loss, take-profits, and entry and exit points. The three commonly used trading strategies are breakout trading strategy, momentum trading strategy, and the reversal trading strategy. These are useful in both bullish and bearish conditions. 

The conclusion is you can use as many technical indicators as you want, but there is never a surety about what will happen next in the trade market. Nevertheless, if you use RSI and other financial instruments with persistence, your gains will increase in the extended period.

When you’re into trading, any insight is highly appreciated. Both MACD and RSI indicators can inform you whenever a security’s price increases or decreases faster. There is a constant competition between these two as it is said an RSI indicator is more capable and successful than the other one, with lesser wrong trading signals. But, certain factors claim a MACD indicator to be much better and accurate.

Are you wondering which one should you go for? Check out a detailed comparison of the two and which is the best momentum indicator right here in this article ahead.

What is the MACD indicator?

MACD indicator represents trend-following momentum indicator that consists of “fast” line, “slow” line, signal line, and histogram to give bullish and bearish signals. Default settings are The 12 period exponentially weighted average (EMA) for the ‘fast line,’ The 26 period EMA for ‘slow line,’ and nine period EMA for the signal line.

Above is presented MACD with two lines indicator. You can download MACD with two lines on our website.

MACD is a short form for Moving Average Convergence Divergence; the MACD chart displays two different shifting averages and is crafted to run along with the centerline. When set to a standard model, it shows a 12-period exponential moving average and 26-period exponential moving average. It just depends upon your preferred trading timeframe. If you like to do trading according to the daily chart, then standard mode functions.

The best MACD settings are the standard ones, and it would be infrequent when you’d need to change them. The measuring parameter is momentum, and the chart helps one visualize the price momentum at that moment, comparing both short and long-term price changes. Not only so, but there are specific points one must take care of upon using the MACD indicator:

A singular line in these charts is created based on the 9-period exponential moving average or a shorter period EMA, and this is one of the cases where standard settings aren’t used.
When a MACD chart is positive, the moving average of the short term is higher than a long time moving average. Thus, as per this display, upward momentum is visible.
Similarly, when the chart is on the negative side, the long-term moving average is higher than the short-term moving average. Thus, as per this arrangement, downward momentum is displayed.
When the market constantly goes up and down, one must change the settings to see the shorter period moving average to get the trading signals.

What is the RSI indicator?

RSI indicator or Relative Strenght Index represents momentum indicator that determines trend strength, overbought and oversold levels. RSI measures the speed and change of price movements, and its values range from 0 to 100.

RSI is also a momentum indicator like MACD, and investors mostly use it to identify the overbought and oversold conditions present in the market. By putting this indicator to use, one can determine whether the name of renowned security lives up to its mark or is just overhyped. The RSI stock charts are placed on a scale displaying values between 0 to 100. This is what it exactly signifies:

When the reading goes above 70, then that particular security is overbought by traders.
When the reading goes below 30, then that particular security is oversold amongst traders.

Several people also suggest that a reversal could occur when the actual price is drifting from the RSI signal. Technically, it is referred to like the term ‘divergence,’ and it is a handy tool for those who wish to identify the latest reversals in the trends. When the indicator’s settings are set to the standard mode, the chart is plotted with data of up to 14 trading periods.

Like MACD, even in RSI, the indicator identifies the statistics depending on the preferred trading timeframe. For example, if the trading takes place according to the daily chart, 14 days will be used. Just like that, when you trade according to the hourly chart, the data will be plotted per the 14 hours. Thus, the period of the RSI divergence can be set for the shorter term when the market is dynamic.

The RSI signals are displayed according to the latest price trends and reduce wrong signals visible in a shorter timeframe when the market is rapidly changing.

How to avoid RSI false signals?

To avoid RSI false signals, use default RSI settings and use RSI in higher time frames such as H4, Daily, or Weekly charts. Usually, RSI reacts very fast to solid price movements, and this can generate a false signal. The best way is to wait for H1 or H4, or Daily or weekly candle to close and check if momentum changed.

For example, the price moves very fast from 1.3 to 1.305 in just a few minutes. On the hourly chart, RSI shows a bullish trend, and the RSI value is above 60. However, 10 minutes before the hourly candle closes, the price is going down, and the RSI value is below 50. Therefore, as a trader, you need to wait hourly close before your trade position.

Can You Use RSI and MACD Together?

You can use RSI and MACD indicators together even though both indicators show a similar momentum change and usually give identical signals. However, if you decide to enter into a trade, if both indicators show a bullish trend or a bearish trend, you can decrease the number of false signals. 

One indicator, in this case, will give different conformation of the momentum change, and you as a trader will have an additional trigger, fewer false signals, fewer trades, and better performance.

MACD vs. RSI

• RSI indicator shows trend change faster than MACD for the same time frame
• MACD has slightly better performance than RSI for short-time trades in M5, M15, M30, H1 time frames.
• MACD and RSI, and all other standard technical indicators do not predict future prices. They only remove noise in the time/price chart and visually present momentum change. They give the edge to traders.

Although MACD and RSI are highly compatible amongst traders, certain factors make them different and ideal for a specific use. There are a set of situations when the RSI has proven itself to be stronger, and the sides have split as well. Check these pointers out:

Researches prove that the MACD chart is quite capable of identifying probable trends of both small-cap and large-cap stocks, not the mid-cap stocks whose trend lines aren’t entirely clear. When looking at statistic-based situations, this particular indicator was found accurate nearly 80% of the time until the stock was from a small-cap or a large-cap sector. When taking a look according to the classifying standpoint, if a company crosses $10 Billion, then it is a large-cap.

A small-cap company has a market value under $1 Billion. This research assures that this indicator, in particular, is not well-functioning in non-categorized markets. Therefore, if you’re trading in a trending sector, then MACD is the perfect indicator for you, but if not, then RSI would be the way to go.

Whether trading daily, weekly or monthly, the MACD indicator can function in every timeframe. Not only that, but this indicator is easy to alter amongst two moving averages. For instance, in longer-trade signals, these hold the capacity to ease the short to medium-term volatility, which is very useful when you trade in an asset that is dynamic and everchanging when in the market.

It is so because long-term trading on a risky asset requires smoothening of signals to decrease the number of false alerts. In simpler terms, it refers to the period when someone wishes to clear the clutter and get a defined image of when to buy and sell the securities.

When it comes to short-term trade signals, volatile assets would require smaller period moving averages to get alerts based on the latest trends, ensuring you make decisions of trading based on the newest data acquired from the market.

When you are into short period trading, the MACD trading chart is a better and an ideal indicator to go for than RSI. But, a trader must always know that short-term trading is riskier in comparison to the regular cycle. For instance, selling the shares in a limited time frame involves the following steps:

Traders dealing in short-term shares need to borrow those from an investment firm.
Then, they sell it to another investor.
Furthermore, the trader repurchases the shares to return those to the investment firm, a.k.a the profit booking stage.
Lastly, the shares are returned to the firm from which they were once borrowed.

Now, all these steps indicate the number of issues in short-term trading, but if you frequently do it and have now understood the procedure, then the MACD indicator would be better than the RSI one in this case.

RSI proved to be more efficient and compatible with the overall amount of profit earned from trading with the help of the displayed signals and the increasing capital of every trade. It signifies the perfect time to buy or sell a particular form of security, resulting in a profit. Moreover, RSI trading offers effective outcomes when a person uses it for a more extended period.

RSI is slightly more reliable than MACD when used in markets that aren’t trending. This period is when the price diverts itself to the sideways, lying between the support and the resistance for a longer time. There is no such specific increasing or decreasing price of the asset; it is pretty stable.

Non-trending markets are quite a risker than the trending ones, but when you are a part of it and are constantly trading in the same, you will notice that RSI helps you get more precise outcomes than MACD. You should remember that studies might favor using this particular indicator for lesser trending markets, but you should conduct your analysis and make a final trading decision.

The Relative Strength Index indicator pairs well with fundamental analysis as the technique focus on the asset’s price, further comparing it to its outstanding value. In addition, RSI looks for upcoming differences in the price momentum to display the accurate time of purchasing or selling the shares. Using these two together certainly provides profit to a certain extent.

In Conclusion: Which of them is the best?

Several people have laid knowledge to a certain extent on both MACD and RSI indicators in all sorts of market situations. Both of them have displayed their benefits, therefore leaving it on the trader to use one according to their status. When MACD proves itself to be compatible in all situations, RSI rules specific complex trading scenarios.

But in both their cases, regardless of how compatible these are, your entire decision should never be based on these indicators. Rather than that, it would help if you always focused on the visual representation of indicators, cumulate additional triggers, and then enter the trading field. This step will help you make your decision stronger as it’s never wise to rely on just one’s insights!