The relative strength index is a software based day trading indicator that takes into account price and/or volume movement when measuring the downward or upward strength of a security. Overbought and oversold market conditions can be identified using the relative strength index.
By measuring gains and losses of a security’s momentum during a given period (14 days is the usually the default), parameters can be set to gauge investor interest.
Overbought RSI Threshold
The threshold on the relative strength index most commonly used in a trading platform to make decisions resulting from overbought investor behavior is a reading of 70.
- Based on a level of 70 or above, a decision to sell a given security may be made as the market in this particular security may be considered oversaturated.
- A reading of 70 on the relative strength index may also be an ideal level to set a sell stop order, meaning once the 70 mark is reached, your online trading software can exit from your position or enter you into a short position.
Oversold RSI Threshold
The level most commonly used on the relative strength index to make online trading decisions resulting from oversold investor behavior is a reading of 30.
- At a level of 30 or below, a decision to buy a given security may be considered as the market in this particular security may be under bought.
- A reading of 30 on the relative strength index may be an ideal level to set an automatic buy order, meaning once the 30 mark is reached, your trading platform can enter you in or add to your position.
The relative strength index can also be used in tandem with other day trading indicators indicators. Using another trading indicator with the relative strength index provides day traders with an extra layer of verification that a trade setup might be present. An example of this occurrence triggering a trade could be the relative strength index penetrating the 30 level and the security’s price trend line penetrating the bottom of Bollinger Bands.
If you are interested in backtesting using the relative strength index, download our FREE day trading software today!