In previous editions, we briefly touched on the introduction of technical analysis (TA) including how to identify support zones, resistance zones, moving averages, and on-balance indicator - we encourage you to read them for better understanding. Do remember that, as an investor, you should not be too worried about TA or shorter timeframes. They are more relevant for traders who frequently trade to book higher profits, though with higher risks. Today, we will introduce the concept of relative strength indicator (RSI) without going into the mathematics behind it.
RSI is basically an oscillating line that captures the magnitude of recent price movements of a crypto asset. It is used to identify overbought or oversold conditions in the market. The value of RSI will vary between 0 and 100 at any given time. Generally values above 70 indicate that the crypto asset is becoming overbought (overvalued), while values below 30 indicate that it is getting into oversold (undervalued) territory. Both suggest that either a correction in a price or trend reversal is on the way. Here’s an example of a price chart along with RSI indicator at the bottom. You can also notice how the RSI oscillates mostly between 30 and 70, occasionally breaking away from the normal range.
Source: Tradingview, Binance
When the price of a crypto asset is in a horizontal trend (sideways movement), then RSI under 30 is usually considered as a bullish sign and similarly, RSI above 70 is considered as a bearish sign. In a strong uptrend or downtrend, the threshold levels (overbought & oversold) are adjusted higher or lower.
Market participants often find themselves getting lost in a myriad of indicators when it comes to spotting trend reversals. With RSI, it is easy to identify a potential trend reversal of a crypto asset price. Now take a look at the MATIC chart below along with the RSI. Note how the RSI indicator during May suddenly reversed its direction and fell sharply in the subsequent days. At the same time, notice how the price of MATIC also reversed and was in a long downtrend. To summarise, in a bullish scenario, when RSI exceeds 70 a couple of times, then a sharp drop to the 40s possibly indicates a reversal in the price of a crypto asset. On the other hand, during a bearish trend, if the RSI falls below 30 repeatedly, a steep rise to the 70s is a signal for an uptrend in price.
Source: Tradingview, Binance
RSI can reveal bullish divergence if we treat the RSI line similar to a price trendline. Take a look at the chart below to understand how a bullish divergence on the MATIC chart culminated in its current uptrend. It occurs when the RSI forms higher lows, while the price of a crypto asset forms lower lows as shown below during mid-November.
Source: Tradingview, Binance
On the flip side, bearish divergence occurs, when the RSI forms lower highs, as the price of a crypto asset forms higher highs. A bullish divergence is an indication of likely uptrend in the near future whereas bearish divergence precedes a downtrend.
To wrap it up, RSI can be helpful but as reiterated in our previous editions, these indicators work best if used in conjunction with other similar technical indicators like moving averages, MACD etc.
Disclaimer: This article was authored by Giottus Cryptocurrency Exchange as a part of a paid partnership with The News Minute. Crypto-asset or cryptocurrency investments are subject to market risks such as volatility and have no guaranteed returns. Please do your own research before investing and seek independent legal/financial advice if you are unsure about the investments.