Devoted to understanding the basics and fundamentals of investing

Today I want to write about another technical indicator developed by J Welles Wilder.  It is the Relative Strength Index or RSI.  The RSI is an oscillator that varies between zero and 100.  The RSI is used to tell whether a stock is overbought (likely to go down) or oversold (likely to go up).  The RSI works best in sideways markets where there is no strong trend in play.

Mr Wilder recommended using a 14 period parameter for the measurement.  The RSI looks at the average gains relative to the average losses during the period.  A reading over 70 represents an overbought period and a reading under 30 represents an oversold condition.

As the RSI can fluctuate between zero and 100, 50 is the average.  For RSI a reading of 50 might be called the "Centerline".  Some technicians look for a cross over reading above 50 to confirm a bullish signal (average gains are winning) and a cross over reading below 50 to confirm a bearish signal (average losses dominate).
Because RSI uses multiple periods it can continue in one direction when the underlying stock moves in another.  Mr Wilder called this a Divergence.  The underlying stock will frequently reverse direction after a divergence.  So divergences are used by traders to confirm buy or sell signals.

You can read much more about RSI in Mr Wilder's 1978 book, New Concepts in Technical Trading Systems.