Relative Strength Index
You’ve heard many times about RSI (Relative Strength Index) and you will also know that it is, probably, one of the tools more used by traders. The RSI is an oscillator which is primarily used to identify the phases of the price that “enter” in over-bought or in over- sold.
Most trading strategies are based on this oscillator, which often is able to solve even the most twisted situations. To understand when a price goes into an over-zone, is often useful for opening a position in reverse. For example if the price were to reach the over-sold area, the thing of which we can be sure is that sooner or later it will move toward the center. In the illustration we have created a custom RSI to explain it better.
As you see the oscillator is the blue line that moves within two margins: one delimited by the red line (70%) and one delimited by the green line (30%). The RSI’s margins are the limits within which the oscillator moves in stable situations, while the green area (over-bought) and red zone (over-sold) are the areas in which the price moves in extreme situations, therefore the sales will be too much (O.B) or vice versa (O.S.) Looking at the picture, the RSI is located at the bottom of the chart and it is not hard to understand what we said before. However not all of the strategies that use RSI, are based on an inversion, but we will see this later.