The Relative Strength Index (RSI) is a momentum oscillator developed by J. Welles Wilder in 1978. It measures the speed and magnitude of recent price changes to evaluate whether a stock is overbought or oversold. RSI oscillates between 0 and 100, with readings above 70 traditionally considered overbought and readings below 30 considered oversold. It remains one of the most widely used technical indicators worldwide, including in the Egyptian stock market.
The RSI formula works in two steps. First, calculate the average gain and average loss over a lookback period (typically 14 days). Average Gain = sum of gains over 14 periods / 14. Average Loss = sum of losses over 14 periods / 14. Then, RS (Relative Strength) = Average Gain / Average Loss. Finally, RSI = 100 - (100 / (1 + RS)). After the first calculation, subsequent values use a smoothed moving average: Average Gain = (Previous Average Gain × 13 + Current Gain) / 14. This smoothing makes RSI more stable and less jumpy than a simple rolling calculation.
Overbought and oversold zones are the most basic RSI application. When RSI crosses above 70, the stock may be overbought — meaning the recent rally might be overextended and a pullback could occur. When RSI drops below 30, the stock may be oversold — suggesting the selling pressure might be exhausted and a bounce is possible. However, in strong trends, RSI can stay overbought or oversold for extended periods. In a strong uptrend, RSI may oscillate between 40 and 80, rarely dipping below 40. In a strong downtrend, RSI may range between 20 and 60.
RSI divergence is a powerful signal. Bullish divergence occurs when the stock price makes a lower low but RSI makes a higher low — this suggests weakening selling momentum and a potential reversal upward. Bearish divergence occurs when price makes a higher high but RSI makes a lower high — this warns that buying momentum is fading despite new highs. Divergence signals are most reliable when they occur near overbought or oversold extremes and when confirmed by other indicators like volume or MACD.
Failure swings are another RSI pattern Wilder considered highly reliable. A bullish failure swing occurs when RSI drops below 30, bounces above 30, pulls back but stays above 30, then breaks above its prior high. A bearish failure swing occurs when RSI rises above 70, drops below 70, rallies but fails to reach 70, then breaks below its prior low. Failure swings are considered stronger signals than divergence because they do not depend on price action — they are purely RSI-based patterns.
Centerline crossovers add another dimension. When RSI crosses above 50, it indicates that average gains are exceeding average losses — bullish momentum. When RSI crosses below 50, average losses exceed average gains — bearish momentum. Some traders use 50 as a trend filter: only taking long trades when RSI is above 50 and short trades when below 50.
Practical tips for using RSI in the Egyptian market: (1) Use 14-period RSI as your default but consider 7-period for short-term trades. (2) Adjust overbought/oversold levels to 80/20 in strong trends. (3) Always confirm RSI signals with volume — an oversold bounce on high volume is more reliable. (4) RSI works best in ranging markets; in strong trends, rely on centerline crossovers instead. (5) Combine RSI with support/resistance levels for higher-probability entries. This is not financial advice.
This content is for educational purposes only and does not constitute financial advice. Always do your own research before making investment decisions.