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Relative Strength Index (RSI): A Comprehensive Guide for Crypto Investors

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The Relative Strength Index (RSI) is one of the most popular tools for measuring the short-term momentum of the market. It indicates a cryptocurrency’s recent trading strength by measuring the pace and direction of recent price moves. It can be a great tool to help time your trades and identify swing trading opportunities. 

What is the Relative Strength Indicator (RSI)?

According to Good Crypto, the RSI indicator is a momentum oscillator. Created by J. Welles Wilder in 1978, it has gained a lot of popularity for its effectiveness in showing if a market is overbought or oversold.

Here is a list of a few characteristics that make up the RSI:

  • The RSI index measures momentum and oscillates on a scale between 0 and 100.
  • The calculation is based on the most recent 14 periods, one candle represents one period.
  • The RSI indicator crypto shows when a market is overbought or oversold.
  • Usually, a number above 70 indicates that the market is overbought, and below 30 means that it is oversold.
  • One of the most powerful indications the RSI can give is convergence or divergence, which can be seen as bullish (positive) or bearish (negative).
  • The RSI works best in a market that is in a range, and less well in a trending market. We’ll look into why this is the case.

How to Calculate the RSI?

The formula for the RSI calculation is quite simple. The reason we share the calculation is not that you will need to manually calculate it. We show you the formula so you can understand the underlying mathematics and approach to the market data, however, to trade based on it you do not need to know the exact RSI calculation, you just have to understand what it indicates.

  • RSI = 100 - 100 / (1 + RS)

What is RS in the RSI Indicator Formula?

The RS is the average of absolute upward price changes divided by the average of absolute downward price changes across the 14 most recent periods/candles. This shows you that the price change is the foundation of the RSI indicator. The RSI in effect measures how strong were the up movements vs the down movements in the period in question. The standard RSI period is 14 and the expert recommends keeping the standard RSI settings. the RSI settings for crypto are the same as for any other type of market.

How to Read the RSI?

Like most indicators, the RSI can give many false alarms, and it’s very important to identify the really important bullish or bearish indications. For the RSI trading to be successful, you want to combine its signals with other indicators to eventually get the highest probability of being correct. Once you have learned the RSI in crypto, you can apply it to any other market.

  • The word bullish indicates that buying is stronger than selling, and the market sentiment is positive.
  • The word bearish indicates that selling is stronger than buying, and the market sentiment is negative.

Source: Good Crypto

BTC/USDT 1H—the RSI indicator. The best RSI settings for a 1-hour chart are the standard settings and fit for any timeframe.

When Can We Trust the RSI?

Mostly, signals will be more valuable when you see the price range. Ranging means that the price is going up and down in a certain zone, creating resistance above and support below. When price action is in a range, it is also said that the market is going sideways. There are simply no significant moves upwards or downwards, no continuation.

When the price is trending, which means it is creating new highs or new lows, the RSI is less reliable. Why? Because, when the market is making new highs, we cannot predict with the RSI where will stop. And likewise, when the market is making new lows, we cannot predict how low the market will eventually go.

RSI for crypto is likely the most used indicator besides moving averages, but it works on any kind of chart, including stocks. To conclude, when a market is in a range, you can use the RSI crypto indicator to buy low and sell high.

Source: Good Crypto

In this example, we can see the RSI aligns with the price action, giving you buy and sell signals. A typical chart where the price goes “sideways” or simply ranges. This is the perfect moment to interpret RSI overbought and oversold signals as buy and sell signals.

What is Divergence or Convergence?

Convergence and divergence reflect the directional movement of the market price and the RSI oscillator. When price and RSI move in a similar direction, they are converging, and when they move in opposite directions they are diverging.

  • The RSI divergence is when the price makes a higher high or a higher low, and the oscillator makes a lower high or a lower low in the meantime.
  • The RSI convergence is when the price makes a lower high or a lower low, and the oscillator makes a higher high or a higher low in the meantime.

Source: Good Crypto

Overbought vs Oversold

According to Cointree, there are key levels where the market is considered to be overbought and oversold. These are the levels you’ll see most often on charts and have been the standard since J. Welles Wilder first introduced the metric.

Here is when the framework considers the market to be overbought and oversold:

  • The RSI below 30 is considered oversold market conditions. This indicates that the price will rise in the short term.
  • The RSI above 70 is considered overbought market conditions. This indicates that the price will decline in the short term.

There are a few things to watch out for when using these RSI levels. Firstly, the RSI levels of 30 and 70 aren’t always the best levels to use. Depending on the cryptocurrency, levels such as 20 and 80 can be more useful. Looking at the RSI compared to price over longer timeframes will help give you an idea of the right levels to use.

Secondly, it’s often seen as a good idea to use different RSI levels depending on whether you’re in a bear or bull market. For example, in a bull market, traders sometimes rely on the following levels:

  • The RSI below 40 is considered oversold market conditions. This indicates that the price will rise in the short term.
  • The RSI above 90 is considered overbought market conditions. This indicates that the price will decline in the short term.

Whereas, in a bear market, they sometimes rely on the following levels:

  • The RSI below 10 is considered oversold market conditions. This indicates that the price will rise in the short term.
  • The RSI above 60 is considered overbought market conditions. This indicates that the price will decline in the short term.

Finally, you should always remember that the RSI is one of the many tools that traders use as part of their technical analysis and that it doesn’t guarantee a price movement. For example, in strong market trends, the price can keep moving higher despite the RSI indicating that the market is overbought.

How to Use the RSI When Trading Crypto?

The RSI can be a great tool for helping you make certain trades.

  1. Entry and Exit for Your Trade

The RSI can help inform traders when to buy low and sell high. For example, a trader may wait for the RSI to go above 70 to exit a position. Similarly, they could wait until the RSI is below 30 before entering a trade. Some traders see this as a way to get more crypto for their dollars.

  1. Swing Trading

Swing trading is when you trade between short-term price rises and declines. The RSI is one indicator used to signal when to buy and sell. For example, a trader may buy when the RSI crosses below 30 then sell when it crosses above 70, and then buy again when it crosses below 30. Of course, the trader can use short positions for the declines as well.

  1. Identify Support and Resistance Levels

The RSI can help identify key areas of support and resistance before they’re visible using the price chart. Support is the price the market is struggling to dip below and resistance is the price the market is struggling to break above. And when used in combination with the price chart, the support and resistance zones can be much easier to identify. 

  1. Bullish and Bearish Divergence

Bullish RSI divergence occurs when both the price is making higher lows and the RSI is making declining lows. If the RSI is also in the oversold territory, this is especially bullish. Bearing RSI divergence is the opposite. It occurs when the price is making higher highs and the RSI indicator is making lower highs. This can be a sell signal for some traders.

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Disclaimer: The views expressed belong exclusively to the author and do not reflect the views of this platform. This platform and its affiliates disclaim any responsibility for the accuracy or suitability of the information provided. It is for informational purposes only and not intended as financial or investment advice.

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