Investment and finance Investment and finance InstituteInstitute

Arab Academy for Science and Arab Academy for Science and Technology & Maritime TransportTechnology & Maritime Transport

Technical Analysis

Lecturer: Mr. - Ahmed el oteify

Relative Strength Index Relative Strength Index (RSI)(RSI)

IntroductionIntroduction •Developed by JDeveloped by J. . Welles Wilder and introduced in his Welles Wilder and introduced in his

1978 book1978 book, , New Concepts in Technical Trading SystemsNew Concepts in Technical Trading Systems, , the Relative Strength Index the Relative Strength Index ((RSIRSI) ) is an extremely useful is an extremely useful

and popular momentum oscillatorand popular momentum oscillator. . The RSI compares The RSI compares the magnitude of a stock's recent gains to the the magnitude of a stock's recent gains to the magnitude of its recent losses and turns that magnitude of its recent losses and turns that

information into a number that ranges from 0 to 100information into a number that ranges from 0 to 100. . It It takes a single parameter, the number of time periods to takes a single parameter, the number of time periods to

use in the calculationuse in the calculation. . In his book, Wilder recommends In his book, Wilder recommends using 14 periodsusing 14 periods . .

•The RSI's full name is actually rather unfortunate as it is The RSI's full name is actually rather unfortunate as it is easily confused with other forms of Relative Strength easily confused with other forms of Relative Strength

analysis such as John Murphy's analysis such as John Murphy's ""Relative StrengthRelative Strength" " charts and IBD's charts and IBD's ""Relative StrengthRelative Strength" " rankingsrankings. . Most Most

other kinds of other kinds of ""Relative StrengthRelative Strength" " stuff involve using stuff involve using more than one stock in the calculationmore than one stock in the calculation. . Like most true Like most true

indicators, the RSI only needs one stock to be indicators, the RSI only needs one stock to be computedcomputed. . In order to avoid confusion, many people In order to avoid confusion, many people

avoid using the RSI's full name and just call it avoid using the RSI's full name and just call it ""the RSIthe RSI ". ".

CalculationCalculation

• RSIRSI=Average Gain =Average Gain / / Average LossAverage Loss

• . .Average Gain = [(previous Average Gain) x 13 + current

Gain] / 14

First Average Gain = Total of Gains during past 14 periods / 14

Average Loss = [(previous Average Loss) x 13 + current Loss] / 14

First Average Loss = Total of Losses during past 14 periods / 14

•To simplify our explanation of the formula, the RSI has been broken To simplify our explanation of the formula, the RSI has been broken down into its basic components which aredown into its basic components which are the RSthe RS, , the Average the Average

GainGain, , andand the Average Lossthe Average Loss . .•To calculate RSI values for a given dataset, first find the magnitude To calculate RSI values for a given dataset, first find the magnitude

of all gains and losses for the 14 periods prior to the time where you of all gains and losses for the 14 periods prior to the time where you wish to start the calculationwish to start the calculation. (. (NoteNote: : 14 is the standard number of 14 is the standard number of

periods used when calculating the RSIperiods used when calculating the RSI. . If a different number is If a different number is specified, just substitute that number in for specified, just substitute that number in for ""1414" " throughout this throughout this

discussiondiscussion.).) •It is important to understand that the RSI is a It is important to understand that the RSI is a ""runningrunning" " calculation calculation

and the accuracy of the calculation depends on how long ago the and the accuracy of the calculation depends on how long ago the calculations startedcalculations started. . The first RSI value is an estimate The first RSI value is an estimate - - subsequent subsequent

values improve on that estimatevalues improve on that estimate. . You should calculate at least 14 You should calculate at least 14 values prior to the start of any values that you will rely on values prior to the start of any values that you will rely on - - going going

back 28+ periods is even betterback 28+ periods is even better . .•To start the running calculation, theTo start the running calculation, the First Average GainFirst Average Gain is is

calculated as the total of all gains during the past 14 periods divided calculated as the total of all gains during the past 14 periods divided by 14by 14. . Similarly, theSimilarly, the First Average LossFirst Average Loss is calculated as the total is calculated as the total

magnitude of all losses during the past 14 periods divided by 14magnitude of all losses during the past 14 periods divided by 14. . The next values for the The next values for the ""averagesaverages" " are calculated by taking the are calculated by taking the previous value, multiplying it by 13, adding in the next Gain previous value, multiplying it by 13, adding in the next Gain ((or or

LossLoss)), and then dividing by 14, and then dividing by 14. . This is Wilder's modified This is Wilder's modified ""smoothingsmoothing" " technique in actiontechnique in action . .

•TheThe RSRS value is simply the Average Gain divided by the Average value is simply the Average Gain divided by the Average Loss for each periodLoss for each period . .

•Finally, theFinally, the RSIRSI is simply the RS converted into an oscillator that is simply the RS converted into an oscillator that goes between zero and 100 using this formulagoes between zero and 100 using this formula: : 100 100 - (- (100 100 / / RS RS + + 11)) . .

UseUse •OverboughtOverbought//OversoldOversold

Wilder recommended using 70 and 30 and overbought and oversold levels respectively. Generally, if the RSI rises above 30 it is considered bullish for

the underlying stock. Conversely, if the RSI falls below 70, it is a bearish signal. Some traders identify the long-term trend and then use extreme readings for entry points. If the long-term trend is bullish, then oversold

readings could mark potential entry points .

Divergences Buy and sell signals can also be generated by looking for

positive and negative divergences between the RSI and the underlying stock. For example, consider a falling

stock whose RSI rises from a low point of (for example) 15 back up to say, 55. Because of how the RSI is

constructed, the underlying stock will often reverse its direction soon after such a divergence. As in that

example, divergences that occur after an overbought or oversold reading usually provide more reliable signals

Centerline CrossoverCenterline Crossover •The centerline for RSI is 50The centerline for RSI is 50. . Readings Readings

above and below can give the above and below can give the indicator a bullish or bearish tiltindicator a bullish or bearish tilt. . On On

the whole, a reading above 50 the whole, a reading above 50 indicates that average gains are indicates that average gains are

higher than average losses and a higher than average losses and a reading below 50 indicates that losses reading below 50 indicates that losses

are winning the battleare winning the battle. . Some traders Some traders look for a move above 50 to confirm look for a move above 50 to confirm

bullish signals or a move below 50 to bullish signals or a move below 50 to confirm bearish signalsconfirm bearish signals

ExampleExample

referencesreferences

•technical analysis the complete technical analysis the complete resource for financial marketresource for financial market

((KirkpatrickKirkpatrick )) •technical analysis explainedtechnical analysis explained

((martin g pringmartin g pring ))•Technical analysis of the financial Technical analysis of the financial

marketsmarkets•John MurphyJohn Murphy(( ) )•httphttp://://stock chartsstock charts..comcom

GOOD LUCK

•Lecturer: Mr. - Ahmed el oteify