RSI indicator: how the relative strength index works and how to trade it

The relative strength index (RSI) is a momentum indicator that compares recent gains with recent losses and shows the result on a scale from 0 to 100. J. Welles Wilder introduced it in 1978 with a 14-period setting. Readings above 70 are called overbought and below 30 oversold, but neither is a signal to trade on its own.

In short

• RSI = 100 - 100 / (1 + RS), where RS is the average gain divided by the average loss over the period. The default period is 14 candles.
• A reading above 70 means recent gains have outweighed losses by a wide margin. It does not mean price is about to fall, and in a strong trend RSI can stay above 70 for days.
• RSI works best as a filter in a range, as a trend gauge (above or below 50) or as a divergence tool, and worst as a stand-alone sell-at-70 rule.
• Entering when RSI crosses back out of an extreme is more common than entering when it first reaches it.
• On a $10,000 Direct account, a 33-pip stop on 0.30 lots of GBP/USD risks about $99, a quarter of the $400 first-day daily loss limit.

What is the RSI indicator?

The RSI indicator is an oscillator that plots below the price chart and moves between 0 and 100. It measures the speed and size of recent price changes. A high value means the last 14 candles closed up by more than they closed down. A low value means the opposite.

Because it is bounded, RSI is easy to compare across pairs and timeframes. A reading of 75 means the same thing on EUR/USD as on gold: recent gains have been much larger than recent losses. What it does not tell you is why, or what comes next. A pair can be strongly bid for a week, and RSI will say so the whole time.

It is one of several indicators covered in the Academy indicators lesson, alongside moving averages, MACD and VWAP.

How is RSI calculated?

RSI = 100 - 100 / (1 + RS). RS is the average of the up-closes divided by the average of the down-closes over the period, 14 by default. The first value uses simple averages over 14 candles. After that, Wilder's method smooths each average, so old candles fade rather than drop out.

Take a 14-period RSI where the average gain is 12 pips and the average loss is 6 pips. RS is 2, and RSI = 100 - 100 / 3 = 66.7.

The smoothing step updates the averages with each new candle: new average = (previous average x 13 + current value) / 14. Suppose the previous average gain was 10 pips and the previous average loss 8 pips, and the new candle closes 14 pips higher.

1. New average gain = (10 x 13 + 14) / 14 = 10.29 pips.
2. New average loss = (8 x 13 + 0) / 14 = 7.43 pips.
3. RS = 10.29 / 7.43 = 1.385.
4. RSI = 100 - 100 / 2.385 = 58.1.

You never need to calculate this by hand, because the platform does it. The point is that RSI depends on the period you choose. A shorter period, such as 7, makes it jumpier and reaches the extremes more often. A longer one, such as 21, smooths it and reaches them less.

What do the 70 and 30 levels mean?

A reading above 70 is called overbought and a reading below 30 oversold. These words mean that recent moves have been one-sided, not that price must reverse. In a strong trend RSI can sit above 70 for many candles while price keeps rising, and selling each time would put you against the trend.

The levels are a convention from Wilder, and they can be moved. In a range, 70 and 30 often mark turning points. In an uptrend, RSI tends to stay between about 40 and 80, with pullbacks finding support near 40 to 50. In a downtrend, it tends to stay between about 20 and 60, with rallies meeting resistance near 50 to 60. Those ranges are rules of thumb, and they differ by market.

The 50 line is a simple gauge of trend. Readings above 50 mean gains outweigh losses and readings below 50 the reverse. Many traders only look for buys when RSI is above 50 on the higher timeframe.

How do you trade with the RSI indicator?

The most common methods are the range reversal, the trend pullback and divergence. Each needs a market condition to be true first, so check whether the chart is in a range or a trend before you pick one. Using the wrong method for the condition is the usual way RSI trades fail.

1. Range reversal. In a clear range, buy when RSI falls below 30 and crosses back above it, near the support of the range. Sell when it rises above 70 and crosses back below, near resistance. Waiting for the cross back avoids buying the whole way down.
2. Trend pullback. In an uptrend, buy when RSI dips toward 40 to 50 and turns up. The trend following guide shows how to define the trend.
3. Divergence. When price makes a new high but RSI makes a lower high, momentum is fading. The divergence trading guide covers it in full.

For mean-reversion setups, read the mean reversion guide, which also shows how to measure whether a range exists. Add a second reason to every RSI trade, such as a support area or a candle pattern, because RSI alone is a weak signal.

What does an RSI trade look like with real numbers?

This example is a range reversal on a 1-hour GBP/USD chart, on a $10,000 Direct account risking 1% per trade, which is $100. One standard lot of GBP/USD is worth $10 a pip. The prices are made up for teaching.

1. GBP/USD has bounced between 1.2650 and 1.2750 for two days. Price falls to 1.2650 and the 14-period RSI drops to 27.
2. Wait for RSI to close back above 30. The candle closes at 1.2655 and RSI reads 32. Buy at 1.2655.
3. The stop goes 3 pips below the low of the swing at 1.2622. The risk is 33 pips.
4. Size: $100 / (33 x $10) = 0.303 lots, rounded down to 0.30. A pip is $3.00, so the risk is 33 x $3.00 = $99.
5. The target is just under the top of the range at 1.2740, 85 pips away. That is worth 85 x $3.00 = $255, a ratio of 2.6 to 1.

Now the case where it fails. If price breaks below 1.2650 and RSI stays under 30 for 20 candles, the range has become a downtrend, and a buy at "oversold" loses at the stop. This is why the stop is placed first. The idea is invalid if price closes below 1.2622, and you leave.

How this works on CMC Funded

On a $10,000 Direct account the daily loss limit is 4% of the day's starting equity, which is $400 on the first day, and the maximum loss is a fixed 6%, so the floor is $9,400. The $99 trade uses about a quarter of the daily limit. Four such losses in a day would use $396 of the $400, before costs.

Both limits are measured on equity, so floating losses count. This is a practical risk for RSI traders who add to a position as RSI gets lower: each add increases the exposure into a move that may be a trend, not a bounce. Decide the total risk before the first entry and do not exceed it.

The Direct profit target is 10%, which is $1,000 on $10,000. Direct needs at least 3 trading days and has no time limit, so you are not forced to take every RSI signal. On the Classic route the daily limit is 5% and the maximum loss 10%. Trading is simulated, and costs are modelled, so short-term signals on low timeframes pay a larger share of their target to the spread. Read the rules for the definitions.

Does the RSI indicator work?

RSI describes recent momentum, and it has no reliable record as a stand-alone signal. Selling at 70 and buying at 30 loses money in strong trends and can work in ranges. Whether it helps depends on the market condition, the period and what you pair it with.

Backtests are easy to bend. Changing the period from 14 to 9, or the levels from 70/30 to 80/20, can turn a losing test into a winning one. A setting that fits the past by tuning rarely holds. Keep the standard 14 and 70/30 until your journal says otherwise, and test on a separate stretch of data from the one you tuned on. The trading journal template guide shows what to record.

Common mistakes

• Selling every reading above 70. In a trend, RSI stays high, and each early sell is a loss.
• Using one method in every condition. A range reversal in a trend, or a trend pullback in a range, fails.
• Tuning the period until the past looks good. A 6-period RSI that fits last month probably does not fit next month.
• Ignoring the higher timeframe. An oversold reading on the 5-minute chart in a falling 4-hour trend is a pause.
• Entering at the extreme and not at the cross back. Buying the moment RSI touches 30 means catching the fall.
• Trading RSI alone. A reading with no price level behind it has no stop to place.
• Sizing from the signal and not the stop. The lots come from the distance to the stop, 33 pips here.

Questions traders ask

What is the best RSI setting?

The default is 14 periods with levels at 70 and 30. Shorter periods give more signals and more false ones, and longer periods fewer. No setting has been shown to beat the others, so test any change on separate data.

Is RSI above 70 a sell signal?

No. It shows recent gains have been large. In an uptrend, RSI can stay above 70 for a long time. Most traders wait for it to cross back below 70, or for a price signal, before selling.

What does RSI 50 mean?

It means average gains and losses over the period are equal. Many traders treat above 50 as a bullish bias and below 50 as bearish, and use it as a trend filter.

Can RSI be used with other indicators?

Yes, and it usually should be. Common partners are moving averages for the trend and support or resistance for the entry. The MACD indicator guide covers another momentum tool that traders pair with RSI.

Next steps

The Academy indicators lesson puts RSI next to moving averages, MACD and VWAP with practice questions. The Bollinger Bands guide covers a volatility tool often used with RSI in ranges. Size each trade from its stop with the position size calculator, and read the loss limits on the rules page.

You can compare the Classic and Direct routes on the challenges page.