We have repeatedly pointed out that momentum indicators can be very reliable indicators if they are used and interpreted correctly. The momentum is intended to capture the dynamics of the price and thus provide information about whether the currently prevailing trend is stable or weakening.
Meanwhile, momentum indicators can be calculated in different ways. One of the most common momentum indicators is the momentum itself. But the RSI (Relative Strength Index) also belongs to the genus of momentum indicators.
Calculation of the RVI
While the momentum indicator does If the closing price difference differs from the previous day, the Relative Vigor Index relates the price range between the day's high and low to the price range between the opening and closing price. So the greater the difference between the two ranges, the less strong the movement in the respective direction was and vice versa.
The Relative Vigor Index is smoothed with a signal line by using a moving average based on a specific one Period calculated on it. The zero line should provide information about the direction of the trend.
Interpretation of the RVI
We have to take three parameters into account when interpreting:
- The zero line,
- the indicator itself and
- the signal line.
The zero line should give an indication of the trend in the price. If the center line is crossed, a trend change takes place. Furthermore, crossing the signal line through the indicator is a sign of increasing volatility, i.e. acceleration in the trend.
For example, if the indicator intersects the signal line from bottom to top, it indicates an accelerating trend upwards. If the indicator is crossed from top to bottom, this is a signal for an accelerating downward movement.
In addition, certain constellations should be noted. The signal can therefore be classified as reliable if the acceleration occurs at a point in time when the indicator is still in an opposite trend area, i.e. the crossing of the signal line downwards still occurs above the zero line and vice versa. This should signal the trend change and the acceleration early enough.
Binary Options Review - RSI Trading Strategy (Relative Strength Index) - Binary Options
Review of interpretations in practice
As is so often the case, the interpretation rules are general definitions. However, markets are not so easy to squeeze into rigid structures and patterns, so it is always important to check how reliable these general definitions are. Let's look at the following chart:
The chart makes it clear that the indicator meets these definitions, but it is questionable what added value it offers compared to the price itself. Because it is also clear that, by and large, the indicator simply follows the course. If the price drops significantly, the indicator also falls below the zero line and vice versa.
You should therefore briefly remember what the indicator should actually say. We remember it is a momentum indicator. We should therefore not pay more attention to whether the indicator points briefly in one direction or the other, but whether it shows certain tendencies over a longer period, similar to the interpretation of the RSI indicator.
In this sense come again the popular divergences between the course of the course and the indicator are considered as additional rules of interpretation. If we look at the chart again, we see that trends and divergences provide the better signals over time.
In this case, we clearly see a constant pattern - if we summarize the following rules:
- There must be a divergence between the price and the indicator.
- The turnaround accelerates and the zero line is broken.
- After the zero line has been breached, the indicator remains strong.
The optimized rules can definitely offer us more when it comes to interpretation. Nevertheless, one has to say that even these cannot guarantee 100 percent reliable signals. This can be seen, for example, from the second reversal upwards, which was displayed with the help of the indicator and the rules, but which could not prevent the price from collapsing Bypass reversals. We will deal with this in the next post, in which we will simultaneously develop a trading strategy based on the RVI indicator.