RSI is a very popular indicator that helps identify overbought and oversold market conditions.  It is a momentum oscillator where the momentum represents the rate of the rise or fall in price.  The RSI shows a ratio of the high vs low close prices within a set time period (usually 14 days).  It is plotted on a percentage scale between 0 -100 with movements below 30 or above 70 seen as significant.

When the price moves up or falls very rapidly, at some point there is a very good chance that it will become overbought or oversold and a reversal will follow.  The 30 and 70 points on the rsi chart represent very fast movements in price and as a result an imminent reversal.

RSI DIvergence

RSI is also used to spot a reversal using a technique known as RSI Divergence.  This occurs when the price moves to a new high above a previous high, but the RSI doesn’t move as high as its previous high i.e the line joining the tops of the market highs and the line joining the tops of the RSI highs are diverging.  This is seen as a strong indicator for a reversal

Failure Swings

A bullish failure swing occurs when the RSI chart:-

1) Moves above the 70 level

2) pulls back lower

3) moves back up but doesn’t reach the height of the first peak

4) moves back down through the level set during the pull back

This is called a failure swing and is considered a strong indicator for a reversal.  An identical but opposite process occurs for bearish failure swings.  Unlike RSI divergence a failure swing doesn’t rely on market price charts as part of its process.

On a standard MT4 account, you can add a RSI indicator on your chart by clicking on the top menu bar insert > indicators > Oscillators > Relative Strength Index.  Alternatively you can click on the indicators dropdown menu in the navigation pane on the left.  The default settings will bring up a standard 14 day RSI with the 70 and 30 levels marked.  These settings can be changed to increase or decrease the 14 day timeframe and also add a level for the 50 level if you like.  You can also get into the settings after creating the RSI by right clicking the RSI line > RSIproperties.