Saturday, September 12, 2009

Swinging with RSI Momentum Indicator

Often Technical indicators are used as a guide or to predict the future course of action of equity markets, especially short-term market movement. Usually the use of technical indicators over a short term period involves studying demand-supply indicators irrespective of fundamental aspects of the market or a stock. Though it is not advisable to predict markets based on any particular technical indicators but a combination of indicators to arrive at any type of concrete decision of the market's next price direction.

Short Term Momentum with RSI

However, in this post we shall try to focus on predicting the very near-term (next 5-15 sessions)market movement for the markets in general. For this purpose, we will use one of the most widely tracked technical momentum indicator for determining the relative strength of the market - the Relative Strength Indicator (RSI).

RSI as defined by is, "A technical momentum indicator that compares the magnitude of recent gains to recent losses in an attempt to determine overbought and oversold conditions of an asset."

It further elaborates on the working of RSI as, "The RSI ranges from 0 to 100. An asset is deemed to be overbought once the RSI approaches the 70 level, meaning that it may be getting overvalued and is a good candidate for a pullback. Likewise, if the RSI approaches 30, it is an indication that the asset may be getting oversold and therefore likely to become undervalued. "

Charts Courtesy:

From the above attached Daily Nifty Charts with range of last 3 months, I have used RSI 5 to determine over-bought & over-sold position of markets for next 5-15 sessions.

1) RSI below 30 around July: As can be seen from the charts, the benchmark index Nifty got over sold during the 10 days prior to and post July 2009, leading to short-term revival in the index immediately for next few sessions.

2) RSI above 70 in July End: During the last 2 weeks of the July 2009, Nifty went into over-bought territory. However, Nifty did not witness any sharp correction but went for small-time consolidation at lower levels for 2 times only to bounce back in the over-bought territory.

3) RSI support at 30 in August: However, the correction of over-bought phenomenon in the latter half of July was inevitable which was witnessed in first half of August 2009. Nifty took strong support at 4400 levels in the first half of August.

4) RSI above 70 in Sept: Again markets have bounced back in the over-bought territory in the September first half.

Based on the above evidences from history of short-term price movements, we can conclude that sooner or later Nifty has to consolidate or correct in order to ensure in line movement with a 'likely' retract in RSI at lower levels in future.

Future Possibilities:

(A) Stretched-Out Pattern: RSI stays above 70 for some more time and Nifty remains over-bought for few more sessions. This possibility could see Nifty testing higher grounds like 4900-4950. On RSI indicator, this would reflect as 'stretching zone' for markets above RSI 70 mark. But, after a certain point, Nifty has to retract to lower range of 4780-4840 levels for consolidation or may be even deeper for correction up to 4680-4740.

(B) Zig-Zag Pattern: The other possibility could be Nifty immediately takes a small 'U' Turn for consolidation below RSI 70 for a week or so. The support area could be 4680-4740 mark for Nifty at such times. But, later, Nifty could again bounce back above RSI 70 mark to head towards higher levels (like the RSI pattern witnessed in last half of July 2009).

(C) Pronounced Correction: Third possibility for Nifty could be that the RSI opts to retract back to 50 mark where it may find Support. This move back for the RSI to 50 could drag Nifty substantially lower at around 4570-4640 range over a period of 10-20 days. Nifty 4570 is a strong support zone for Nifty.

Caution: RSI is 'not' the only technical indicator that determines the movement in any asset class. It is just one of the few indicators which can be more fruitfully utilised in integration with other technical momentum indicators. So, do not build your wholesome judgement or decision based exclusively on above thoughts related with market momentum based on RSI swings.

Disclaimer: All data, content and/or reports posted by Viral Rajnikant Dholakia on this site are only for information and educational purpose of visitor/readers of this blog. It does not constitute to be a recommendation/offer/advice to buy or sell assets/securities in any form. Individuals/organizations are requested to take an informed call by consulting their Financial Advisor before acting on any matter/data published on this blog. This blog does not warrant of any kind of accuracy, adequacy and completeness of data, ideas or thoughts published in it. This site and Viral Rajnikant Dholakia assumes no responsibility or liability or loss or damage of any kind/nature for your trading and investment decisions and its consequent results.


Shabu's said...

Superb!, again Viral, you are providing such high end, matchless information on market. I also underwent the RSI concept in investopedia, but you clarified that in a simple and nice way.

The following lines are enough for a common investor.

"An asset is deemed to be overbought once the RSI approaches the 70 level, meaning that it may be getting overvalued and is a good candidate for a pullback. Likewise, if the RSI approaches 30, it is an indication that the asset may be getting oversold and therefore likely to become undervalued. "

Keep it up....


rajv malik said...

very useful views on use of rsi. please keep it up dholakia ji. i am grateful to bulls4bears to introduce me to this website.

warm regards
rajiv malik

Viral Rajnikant Dholakia said...

Dear Shabu,

Indeed, the application of RSI in determining the momentum of the stock is simple as is mentioned in my posting.

But, the real hurdle lies in being UNAWARE of the fact whether the RSI could Stretch over even more while being in the 'Over-Bought' Zone or it will cool-down instantly.

Professional traders use RSI in integration with other indicators to get the confirmation of the trend.

Thanks for Comments Shabu.

Shabu's said...

Thank u Viral,

The RSI have a crucial role, plus

The Widget is excellent fits your blog, planning to add mine too.

Thanks for such a new finding


Thondaiman said...

Viral, an excellent explanation to RSI movements! Through RSI you have also cautioned where the market is positioned and the imminent risks. I notice your Ranbaxy call has also hit its target. Keep it up and will look for more from you. thanks

drumartak said...

Hello Viralji
I am a regular reader of yr blog from Kuwait. Again it is a superb post about technicals explained in an easy way. Thanks

Viral Rajnikant Dholakia said...

Dear Thondaiman,

Pls note that the RSI indicators of 5 that i have used applies only for very near term horizon like 5-15 days.

It does not depict next 1-2 month view and prospects. It simply is a 5-15 day view.

So, do not confuse very near term views with short or medium term view.