Relative Strength Index Indicator (also referred to as RSI Indicator) is a Forex indicator that helps you determine overbought and oversold market conditions, thus determine entry points. Because it is an oscillator indicator, it has a range of 100 points that reflect the bias of the market.
How can I add Relative Strength Index to my Forex chart?
From the menu at the top of your Forex trading system (I am using MT4 platform in this example), go to INSERT then INDICATORS then OSCILLATORS then click on Relative Strength Index (or RSI).
A message box will pop up with a few settings to adjust, the default settings are OK, however, feel free to change the Period field, here is a quick guide to how to choose the Period:
14: The default number and actually the most commonly used.
9: This will give you more signals, but the signals won’t be that reliable all the time.
25: This will give you very few signals, but those signals you will see are more reliable than any of the other settings’.
Of course you can change the color and line shape however you want.
How can I use RSI Indicator in my Forex trading experience?
RSI indicator can spot the “overbought” and “oversold” spots, those spots usually represent potential entry point for you.
To buy with MT4 RSI indicator:
When the market is oversold (means that there has been too much selling going on and the selling preassure started to loose steam) the market tends to get less sellers and thus more buyers, so this is a good buying opportunity for you.
When the market is oversold, Relative Strength Indicator shows the market at or below the 30 level. Then this should be a good entry point for you.
To sell with MT4 RSI Indicator:
When the market is overbought (there has been too much buying going on and the buying preasure started to cool down) the market tends to have less buyers and thus more sellers. This should be a good selling opportunity for you.
When the market is overbought, RSI Indicator shows the market at or above the 70 level.
What is RSI Failure Swing, and how can I use it in Forex trading?
(You can check Failure Swing in details here, otherwise continue reading)
A failure swing is when the market tries to breakthrough and stay in overbought or oversold areas and it fails, then it tries again and it fails.
Because the market tried really hard and it failed, its failure is usually very bitter, so it is expected to go the other direction with a strong bias.
There are two types of Failure Swings, a Bearish Failure Swing and a Bullish Failure Swing.
Bearish Failure Swing:
A typical Bearish Failure Swing occurs in this fashion:
1: The market breaks through the 70 overbought level.
2: The market fails to continue rallying, it falls down below 70.
3: The market rallies again to a new high (number 3), but this high is lower than the previous high (number 1).
4: The market falls again, scores a new low (number 4) which is lower than the previous low (number 2).
In this case, the market is expected to fall dramatically, because it is well known now that it failed to rally, though it tried hard enough twice.
Bullish Failure Swing:
A bullish failure swing is exactly the opposite of what we saw in bearish failure swing, the following picture will give you an idea, if you want to read the details make sure to visit the Failure Swing page.
Can I use Relative Strength Index for pattern recognition?
Yes, RSI indicator is very good for pattern recognition, it shows best the Head and Shoulders pattern and the Triangle patterns.
Here is an example of how it shows the head and shoulders pattern very clearly, though it was very invisible on the price chart:
- Market does not stay forever overbought or oversold, but there is nothing that says it can’t be for a while. So do not expect market to bounce back from overbought/oversold level immediately).
- If the market is overbought, do not go short before RSI closes below 70.
- If the market is oversold, do not go long before RSI closes above 30.
- Trade chart first, then RSI second, means that you can’t just depend blindly on RSI and enter a trade when it comes down from overbought or up from oversold; you need to see first there there is a trading opportunity on the price chart itself, then check RSI to confirm this position. Best is to have an agreement between the price chart and RSI.