Crypto enthusiast, exploring the world of blockchains with wide eyes and open ears
During trading, we must use all the possible techniques to increase the probability of winning. It's like a long challenging battle but it can be won if we play smartly.
In this chapter, I will share my thoughts on how to learn from the techniques and failures of others and derive strength.
I refer to the other traders as friends as we are part of one community and have a common goal. The common goal is to preserve our capital and be a little bit smarter as it is a zero-sum game. A loss for one is a gain for another trader.
To be a step ahead we always have to understand the movement of the herd and plan our steps accordingly, we should buy when the security is oversold and sell when it is overbought. RSI is one such indicator that will give us proper signals to do so. RSI is a Relative Strength Indicator.
The way a large herd of people behaves in a specific scenario has remained constant over the years and hence with some surety I can say patterns repeat themselves, hence be friends with trends.
Human psychology has always been complex, when a large group of people trade each and every bit of information gets accounted for in the price action be it profitability, acquisitions, market sentiment, political factors or supply & demand scenario.
Going by the pure technical analysis, we have to be concerned only with price action and find a way to work it out to our advantage.
Familiarizing the Indicator on Chart
RSI is represented as a continuous line between the values 0<RSI<100, usually traders activate it below the price chart. It has 3 lines:
A sharp pink colour is preferred for depicting RSI, it will help in easier identification of overbought or oversold conditions. Main idea is to identify OBOS levels, i.e. overbought and oversold situations. Generally a 14 period RSI (14) is used.
Identifying Trend Reversal
Trend reversal happens in two conditions:
Application of Divergence
Similar to MACD, the rule of divergence can be applied to RSI as well for better results.
Divergence signals the beginning of trend reversal, but there is a trap you must not fall in, it's called a reversal. In such scenarios RSI shows strong momentum by making higher high or lower low but price action does not follow, indicating a continuation of the previous trend and no reversal. Reversals are therefore also known as Hidden Divergence.
As RSI (14) considers a larger trading period it may happen that trend reversal is not visible on the RSI line before it actually happens. Therefore we will use RSI (5) in conjunction with RSI (14) and make use of crossovers for better trades. The base should be RSI (14), RSI (5) should be used to find a quicker change in price action.
It’s recommended that traders should keep checking the trend by drawing a trendline, if the RSI breaks it then the price action will keep on continuing in that direction or also price reversal may happen.
For each trading period UC (Upward Change) or DC (Downward Change) is calculated. To calculate the same closing price of adjacent candles is considered. Following are three scenarios:
1. Cn > Cn-1
2. Cn < Cn-1
3. Cn = Cn-1
RSF (Relative Strength Factor) = EMA (UC)/ EMA (DC)
RSI (Relative Strength Index) = 100 - [100/(1+RSF)]
Word of Caution
Beware of negative reversal in a downtrend and positive reversal in an uptrend, price action doesn't always follow the direction of the RSI movement.
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