Top 3 RSI Indicator Strategies for Day Trading

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Top 3 RSI Indicator Strategies for Day Trading:

Using RSI combined with the 30 and 70 levels to buy and sell signals.

Buy signals when RSI (Period = 2) is in an oversold situation and the price is above SMA (200).

Opening trades at the moment of divergence identification.

The RSI (relative strength index) indicator was introduced to the world by J. Welles Wilder Jr. in his book “New Concepts in Technical Trading Systems”. It is a momentum oscillator designed to show when a security is overbought or oversold. Despite the fact that the book was released in 1978, the indicator remains relevant fifty years later. It is one of the most popular indicators for trading, as it is searched on Google more often than the others.

2/13/23-updated search results

Statistics of Requests for RSI Indicator

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What is the Relative Strength Index (RSI)?

The RSI is a momentum oscillator that identifies periods when a security is considered to be either overbought or oversold. Essentially, it measures the rate of speed of price, either up or down, and oscillates between 0 and 100. Included are a marked upper level of 70 and a lower level of 30. Above 70 is considered overbought and below 30 is oversold. The RSI indicator is standard on all charting platforms, usually with a default of 14 periods. However, traders can adjust that measure if they like.

These terms refer to the dynamic of mean reversion. In other words, once price moves by a certain distance from the mean, the chance for it to swing back in the other direction towards the mean, increases.

You may have heard the saying, that stock has gone too far too fast and is due for a correction. This is referring to the fact that price has gone too far away from the mean and is due for a correction or counter-trend move. Price dynamics around a moving average is one way to think of this.

There are a few ways to use the RSI such as:

  • Price divergences

  • Failure swings

  • Centerline crossovers

RSI on Gold Chart

RSI on Gold Chart

It is considered that if:

  • The RSI value is < 30 the market is oversold and it is ripe for a reversal.

  • The RSI value is > 70 the market is overbought and ripe for a correction.

Note:

Overbought and oversold readings are not signals to buy or sell as price can continue to be overbought or oversold for some time as it continues to trend. Or, price can go sideways or only correct slightly. See Top 3 Indicator Strategies section below for further details.

RSI Indicator pros and cons

👍 Pros

Applicable to any market and timeframe

Offered by practically all trading platforms

Simple setting

Can be used as a stand-alone tool as well as combined with other indicators

👎 Cons

Sends many false signals; signals against the trend pose a greater danger

Fundamental data and trading volume data are not taken into account

RSI Indicator Settings - What You Should Know

Understanding the nuances of the Relative Strength Index (RSI) is crucial for any trader, as its settings can be finely tuned to align with various trading styles and market conditions. Here's an essential guide to the settings of the RSI indicator. Here are some key things to know about RSI indicator settings:

The default setting for RSI is 14 periods. This means the RSI calculation is based on the last 14 periods, whether those periods are minutes, hours, days, weeks etc.The choice of 14 periods strikes a balance – it’s long enough to filter out the noise of short-term fluctuations, yet sufficiently responsive to capture significant market movements. Wilder claimed that it is the most efficient setting.

However, the beauty of RSI lies in its adaptability. Traders can adjust the period setting to either shorten or lengthen the duration. Opting for a shorter period, say 4, transforms the RSI into a more sensitive instrument, quick to react to even the slightest of price changes. On the other hand, extending the period to something like 30 dampens its sensitivity, allowing for a smoother interpretation by ironing out frequent fluctuations.

The overbought and oversold threshold levels are set at 70 and 30 by default. These are not set in stone; adjusting these levels can tailor the RSI to better suit the unique rhythms of different markets or financial instruments. For instance, in a market or asset characterized by high volatility, changing the overbought threshold to 80 and the oversold marker to 20 might yield more accurate insights.

Example: compare RSI (4) and RSI (30) below, on the same gold price chart:

Compare RSI (4) and RSI (30) below, on the same gold price chart

Compare RSI (4) and RSI (30) below, on the same gold price chart

Traders can adjust their RSI indicator to fit their trading style and to the current market volatility based on the signal frequency.

RSI Day Trading Settings

For example, for intraday trading, try using RSI with a Period from 7 to 14 on the 5-minute chart for stock index futures.

The example above uses RSI (10)

The example above uses RSI (10)

RSI Swing Trading Settings

For the trading with long position holding on the 4-hour chart, consider RSI with the Period = 14 and more.

The example above uses RSI (18)

The example above uses RSI (18)

A tip. Try applying RSI on non-standard charts, including Range, Point-n-Figure, Heiken Ashi and others.

Best RSI settings for day trading

Top 3 RSI Indicator Strategies

Because RSI is a universal indicator, there are many options on how to use it. Let’s review some of them.

Strategy 1

In his book, Wilder recommended using RSI combined with the 30 and 70 levels, to specifically:

  • Buy when the indicator leaves the oversold zone (crosses the 30 line in an upward movement).

  • Sell when the indicator leaves the overbought zone (crosses the 70 line in a downward movement).

Note:

Although the RSI indicator can be used in this simplistic form it is more effective when combined with a variety of technical analysis and a review of the weight of evidence. Otherwise, traders would just set automated strategies for RSI and it would work consistently. However, that is not the case. It should be considered one tool in the tool box.

Example. On the price chart (see the screenshot below), the red arrow indicates entry into a short position. The blue arrow indicates exit from short and entry into a long position.

This approach, when a position is closed on a signal to enter a position in the opposite direction, assumes that the trader is always in a position, “flipping” it based on the indicator signals. Technically, this is permissible.

Testing the RSI Signals

Strategy Testing

Strategy Testing

Strategy tester indicates that with this approach, when the trader is always in position, trading on the RSI (14) signals on a four-hour on USDJPY currency pair chart showed a profit factor (profit/loss ratio) of 1.45. It is a worthy result, but 50 trades is not enough to prove the efficiency of the strategy. After performing more tests, we came to a conclusion that in the longer run, the result of intraday trading based on the RSI indicator becomes less optimistic.

Strategy 1 with Stop Losses and Take Profits

What if you don’t hold the position all the time, but add Stop Loss and Take Profit settings? Then, the position won’t ‘flip’; it will close when the specified values of profit or loss are reached.

You can download a robot for the MetaTrader 4 platform here. The robot trades on the classic RSI signals:

  • buy when the indicator leaves the oversold zone;

  • sell when the indicator leaves the overbought zone.

At that, the robot allows you to set Stop Loss and Take Profit and also change the RSI Period and signal levels 30-70. Here’s how it looks on the chart:

RSI Robot Testing

RSI Robot Testing

Out of 4 trades, 3 closed at a profit, having compensated the loss on the one unprofitable trade.

We launched the robot for testing on an intraday 5-minute EURUSD chart, having used the data for several months.

RSI Robot Testing on EURUSD

RSI Robot Testing on EURUSD

However, the result turned out to be disappointing.

Testing Results

Testing Results

Profitable trades alternate with unprofitable ones, but in the end the robot slowly loses the deposit through constant brokerage commissions.

Testing Results

Testing Results

Optimization of signal levels and settings of the RSI Period has not led to a substantial shift towards the desired result.

Strategy 2

Testing of the Strategy No. 1 for trading RSI indicator proved that it was necessary to seek non-standard application of the RSI or use the indicator in combination with other indicators.

This next example adjusts the strategy according to long time trader and strategy developer Larry Connors’ suggestions. These adjustments are designed to produce less signals but better signals as only extreme RSI readings are used.

A reading of 10 on the downside means that the RSI will have fallen an additional 20 levels below 30 before providing a signal. The opposite for readings 90 or above. Overbought occurs above 70. So a reading of 90 is 20 levels higher. In addition, another requirement is added for the instrument to be above the 200-Day SMA. That is a long-term trend indicator and commonly used within the asset management industry.

A strategy developed by Larry Connors can be one of the solutions. According to the rules of the strategy, a trader enters buy position if:

  • RSI (Period = 2) is in an oversold situation;

  • The price is above SMA (200);

  • Signal levels are set to equal 10 and 90.

The reverse is applicable for the sell opportunity.

This idea is focused on trading the main trend, but with an entry at corrections. The strategy can be applied for the buy opportunities in a growing stock market or other markets with a pronounced trend.

RSI Indicator on a day SPY chart, action time – steady bull market of the mid-2023.

RSI Indicator on a day SPY chart, action time – steady bull market of the mid-2023.

The arrows show 4 strategy-based signals. Every time, right after the entry we see two upward candlesticks that make the strategy nearly perfect. However, truth be told, such stable trends don’t happen often in the US stock market, which is why you need to be very picky in terms of market choice in order to use the strategy, for example focus on the intraday timeframes, where the trends occur more often, albeit they are shorter.

Strategy 3

One of the more useful strategies identifies RSI divergences between the indicator and price. This approach can be especially helpful in periods of trend exhaustion where price is moving higher or lower but the RSI has started to move in the opposite direction. Why? Because it can help get you into a change in trend earlier than otherwise.

Divergence is when the price is moving in the opposite direction of the indicator. For example Bearish Regular Divergence is when the price hits higher highs on the price chart, while the indicator does not show these highs. This signal usually indicates that the trend is weak and the traders need to consider the probability of the reversal.

Divergences may signal not only a possible trend reversal (Regular), but also its continuation (Hidden).

How Does Divergence Work

How Does Divergence Work

The chart shows a triple divergence in the BTCUSD crypto market, when Bitcoin tried to surpass 60k three times. On the price chart we can see three upward lines, while the RSI indicator shows three downward lines.

Divergence Example

Divergence Example

Divergence analysis can be applied:

  • Not only to Bitcoin, but also other markets;

  • Not only to day charts, but also to intraday period;

  • Not only to trend reversal, but also continuation.

Which indicator works best with RSI?

How to Use RSI Signals?

We recommend starting your intraday RSI trading experiments with the analysis of divergences.

Example 1. The 3-minute USDJPY chart shows a triple bullish divergence on the RSI indicator.

Triple Bullish Divergence Example

Triple Bullish Divergence Example

The divergence indicates that the downward impulse is possibly exhausted and the traders have reason to close the short and/or open the long position.

Example 2. RSI (14) and SMA (100) are added to the 5-minute USDJPY chart. The moving average indicates that the market is in the upward trend.

Divergence on USDJPY Chart

Divergence on USDJPY Chart

The arrows show divergence on the RSI indicator, which suggests continued growth.

How do you use the RSI indicator effectively?

RSI chart analysis

Tracking the RSI indicator line you can discover that it draws patterns used for technical analysis of the price. It is fully acceptable to track patterns not only on the price chart, but also in the indicator’s window.

For example, the image below shows a breakout of the trend line, built on the RSI indicator on the intraday GBPUSD chart.

Trend Line, Built on the RSI Indicator

Trend Line, Built on the RSI Indicator

RSI already established the local low, while the price still has not. In this situation RSI indicator acted ahead.

What is the best RSI trading strategy?

Frequent mistake made in trading based on RSI

The mistake is that the traders enter short positions when the indicator enters the overbought zone in the market, which is in an upward trend. Or the traders enter a buy position, when the RSI drops lower than 30 in the market, which is in a downward trend.

Frequent Mistake

Frequent Mistake

Do not risk to open a buy position in the setups, an example of which is shown above. Consider that the RSI shows a momentum, with the trend consisting of a sequence of them. You may get lucky to enter at the extremum a few times, but sooner or later you may start playing against a series of momentums, which is dangerous for your deposit.

Therefore:

  • don’t click on the SELL button, if the price seems high,
    while RSI > 70;

  • don’t click on the BUY button, if the price seems low,
    while RSI < 30.

Summary

RSI is a popular indicator showing overbought and oversold conditions; in its calculations it uses the price dynamics for a given number of previous periods.

RSI is a universal indicator; it can be used:

in any markets: Forex, crypto, stock;

on any timeframes – intraday and for swing trading;

for trading the trend and trend reversal;

as a stand-alone tool and in combination with other indicators.

Analysis of divergences could be a useful way of using the RSI indicator.

FAQs

What should RSI be set at?

The standard setting for the Relative Strength Index (RSI) is 14, which is the default setting in most trading platforms. However, the RSI can be adjusted to different timeframes and market conditions, depending on individual preferences and trading strategies.

What is the best RSI setting for day trading?

The best RSI setting for day trading depends on individual preferences, market conditions, and trading strategies. Some day traders prefer to use a shorter timeframe, such as 5 or 9, to generate more frequent signals, while others use a longer timeframe, such as 25 or 50, to filter out noise and avoid false signals.

What are the most accurate RSI settings?

There are no specific RSI settings that are universally accurate, as different settings may work better for different markets and traders. The RSI settings can be adjusted based on individual preferences, market conditions, and trading goals.

Which RSI indicator is best?

The best RSI indicator depends on individual preferences and trading strategies. Some popular custom RSI indicators include Wilder's Smoothing RSI, Stochastic RSI, and Adaptive RSI.

What is the difference between RSI and Stochastic?

They are similar in a way that they both show momentum and are oscillators ranging from 0 to 100. The difference is that they use different formulas, and Stochastic has two lines. You can use one indicator to confirm the signal of the other indicator, but since they both show momentum it would be more rational to choose one of the two.

Can RSI be used as a filter?

Yes, for example, enter a buy position only when RSI > 0, open buy orders, when RSI < 0. This way you will be using the indicator for trading the trend.

On what markets should I use RSI?

Technically, you can use RSI on any market / timeframe. However, in the market on a strong trend, the indicator may remain in the overbought or oversold condition for a long period of time. Therefore, if you want to trade the classic RSI signals, choose a balanced market with alternating bullish and bearish movements.

What period should I choose for RSI?

There is no correct answer. Although the author used Period=14, it is not a mandatory requirement. A lot depends on your preferences and general market context. In the article, we also showed an RSI (Period=2) example. Anything higher than two can be used.

Team that worked on the article

Oleg Pylypenko
Contributor

Oleg Pylypenko obtained his higher economic education from the Kyiv National University of Technologies and Design. Oleg also studied Volume Spread Analysis (VSA) at Tom Williams’ VSA Club, took an original Richard Wyckoff course, and has significant experience as a private trader. Since 2018, Oleg has been specializing in technical writing and financial markets analysis.

His primary focus area is volume analysis that helps make trading decisions based on vertical volumes, volume profiles, footprints, etc. He is also interested in algorithmic trading, contrarian trading strategies, market cycles analysis, and rare technical analysis patterns.

Oleg writes articles for leading analytical portals, such as Traders Union and traders-mag.com (Germany), as well as for one FCA-licensed Forex broker.

Olga Shendetskaya
Author and editor at Traders Union

Olga Shendetskaya has been a part of the Traders Union team as an author, editor and proofreader since 2017. Since 2020, Shendetskaya has been the assistant chief editor of the website of Traders Union, an international association of traders. She has over 10 years of experience of working with economic and financial texts. In the period of 2017-2020, Olga has worked as a journalist and editor of laftNews news agency, economic and financial news sections. At the moment, Olga is a part of the team of top industry experts involved in creation of educational articles in finance and investment, overseeing their writing and publication on the Traders Union website.

Olga has extensive experience in writing and editing articles about the specifics of working in the Forex market, cryptocurrency market, stock exchanges and also in the segment of financial investment in general. This level of expertise allows Olga to create unique and comprehensive articles, describing complex investment mechanisms in a simple and accessible way for traders of any level.

Olga’s motto: Do well and you’ll be well!