Understanding the Relative Strength Index (RSI)

What is the Relative Strength Index (RSI)?

The Relative Strength Index (RSI) is a comparison between the days that the contract finishes up against the days it finishes down. This indicator is a big tool in momentum trading as it can help indicate the strength of a commodity to traders.

How the Relative Strength Index is calculated

The RSI is calculated using the following formula:

RSI = 100 – 100 / (1 + RS)

RS= Average gain of up periods during the specified time frame / Average loss of down periods during the specified time frame

RSI values range from 0 to 100 and the standard time frame to compare up and down periods is 14 trading days.

RSI Chart


Traditionally, a commodity price is considered overbought around the 70 level and you should consider selling. This number is not written in stone, in a bull market some believe that 80 is a better level to indicate an overbought price since prices often trade at higher valuations during bull markets. Likewise, if the RSI approaches 30 price it is considered oversold and you should consider buying. Again, make the adjustment to 20 in a bear market.

The shorter number of days used the more volatile the RSI is and the more often it will hit extremes. A longer term RSI is more rolling, fluctuating a lot less. Different commodities and futures contracts have varying threshold levels when it comes to the RSI. Prices in some futures contracts will go as high as 75-80 before dropping back and others have a tough time breaking past 70.

When using RSI a trader should beware of surges or sudden movements, as they can create exaggerated RSI numbers and show a false buy or false sell. Due to this, RSI should be used as a compliment to other indicator. RSI is can often be used effectively when couple with trendlines because the two often show correlating values.

 


 

Technical Analysis Guide

RJO Futures | 222 South Riverside Plaza, Suite 1200 | Chicago, Illinois 60606 | United States
800.441.1616 | 312.373.5478

The risk of trading futures and options can be substantial. Each investor must consider whether this is a suitable investment. Past performance is not indicative of future results. Trading advice is based on information taken from trades and statistical services and other sources that RJO Futures believes to be reliable. We do not guarantee that such information is accurate or complete and it should not be relied upon as such. Trading advice reflects our good faith judgement at a specific time and is subject to change without notice. There is no guarantee that the advice we give will result in profitable trades.

This material has been prepared by a sales or trading employee or agent of RJO Futures and is, or is in the nature of, a solicitation. This material is not a research report prepared by RJO Futures Research Department. By accepting this communication, you agree that you are an experienced user of the futures markets, capable of making independent trading decisions, and agree that you are not, and will not, rely solely on this communication in making trading decisions.

Distribution in some jurisdictions may be prohibited or restricted by law. Persons in possession of this communication indirectly should inform themselves about and observe any such prohibition or restrictions. To the extent that you have received this communication indirectly and solicitations are prohibited in your jurisdiction with registration, the market commentary in this communication should not be considered a solicitation.