Cracking the Code: How RSI and Divergences Can Transform Your Investing Strategy

What is RSI?

The Relative Strength Index (RSI) is a momentum oscillator that ranges from 0 to 100. It helps identify overbought or oversold conditions in the market.

Key Levels of RSI

• Overbought (Above 70): Indicates the asset may be overvalued and a price correction could be imminent.
• Oversold (Below 30): Suggests the asset may be undervalued and a price increase could be forthcoming.

Decoding RSI Divergences

RSI divergences offer early signals of potential trend reversals. There are two main types: regular divergences and hidden divergences.

Regular Divergences

*???? Bullish Regular Divergence:

1. Example: Reliance Industries Limited (RIL) drops from ?2,400 to ?1,800 while RSI rises from 20 to 25. This suggests weakening downward momentum and a potential bullish reversal.

*???? Bearish Regular Divergence:

1. Example: Infosys Limited rises from ?1,400 to ?2,000 while RSI drops from 80 to 70. This indicates weakening upward momentum and a potential bearish reversal.

Hidden Divergences

*???? Bullish Hidden Divergence:

1. Example: Tata Consultancy Services (TCS) rises from ?2,000 to ?2,200, then corrects to ?2,100 while RSI falls from 45 to 40. This indicates the strength of the ongoing uptrend.

*???? Bearish Hidden Divergence:

1. Example: State Bank of India (SBI) falls from ?500 to ?400, then rallies to ?450 while RSI rises from 35 to 40. This suggests the continuation of the downtrend.

Practical Application of RSI Divergences

Entry and Exit Points: Use bullish divergences to identify buying opportunities and bearish divergences to signal selling opportunities.

Confirming Trends: Use hidden divergences to confirm the strength of an ongoing trend.

Conclusion

Mastering RSI and its divergences can provide a strategic edge in investing. By recognizing overbought and oversold conditions and identifying potential trend reversals and continuations, investors can make more informed decisions.

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Parth Verma