RSI

RSI assigns stocks a value between 0 and 100. Once these numbers are charted, they can be compared to thresholds to see if the stock is oversold or overbought.  Other indicators can be used along with RSI to strengthen this conclusion.

# As a Tool

RSI is a tool to determine low-probability and high-reward setups. It works best when compared to short-term moving-average crossovers. Using a 10-day moving average with a 25-day moving average, you may find that the crossovers indicating a shift in direction will occur very closely to the times when the RSI is either in the 20/30 or 70/80 range, the times when it is showing either distinct overbought or oversold readings. Simply put, the RSI forecasts sooner than almost anything else an upcoming reversal of a trend, either up or down.

# Definition

$$ RSI = 100 - \left( \frac{100}{1 + RS} \right) $$$$ RS = \frac{\text{Average of } x \text{ days' up closes}}{\text{Average of } x \text{ days' down closes}} $$$$ \text{where: } RSI = \text{Relative Strength Index} $$

# Example Calculation

Example calculation generated by the GPT-4o¹

# Given:

• Overbought RSI level: Usually when \(RSI > 70\)
• Oversold RSI level: Usually when \(RSI < 30\)

# Data:

• Assume \(x = 14\) days.
• Daily price changes for 14 days:
  • Upward price changes: \[2, 1, 3, 0, 4, 0, 0, 5, 0, 3, 0, 1, 0, 2\]
  • Downward price changes: \[0, 0, 0, 1, 0, 2, 3, 0, 2, 0, 1, 0, 4, 0\]

# Calculation Steps:

1. Calculate the average of up closes:
   

   $$ \text{Average up closes} = \frac{\text{Sum of upward changes}}{\text{Number of periods}} = \frac{(2 + 1 + 3 + 4 + 5 + 3 + 1 + 2)}{14} = \frac{21}{14} \approx 1.5 $$

2. Calculate the average of down closes:
   

   $$ \text{Average down closes} = \frac{\text{Sum of downward changes}}{\text{Number of periods}} = \frac{(1 + 2 + 3 + 2 + 1 + 4)}{14} = \frac{13}{14} \approx 0.93 $$

3. Compute Relative Strength (RS):
   

   $$ RS = \frac{\text{Average up closes}}{\text{Average down closes}} = \frac{1.5}{0.93} \approx 1.61 $$

4. Calculate RSI:
   

   $$ RSI = 100 - \left( \frac{100}{1 + RS} \right) $$

   
   Substituting \(RS = 1.61\):
   

   $$ RSI = 100 - \left( \frac{100}{1 + 1.61} \right) = 100 - \left( \frac{100}{2.61} \right) \approx 100 - 38.31 = 61.69 $$

# Interpretation:

• \(RSI = 61.69\), which indicates a neutral zone, neither overbought nor oversold.