RSI Trading Strategy | A Simple Strategy to Trade Using the RSI Indicator

In this blog post, I'm going to show you an RSI trading strategy because I know you are looking for this type of thing and you are hungry for success.

Now, you probably already know what the RSI is but for those of you who don't, I'll explain in just a moment. Then I will show you all a simple trading strategy using the RSI indicator that might help propel your trading to another level.

Watch the video below to learn how the RSI trading strategy works or continue reading if you prefer.

How the RSI trading strategy works

Firstly, what you will need is a trading account with a broker. For any of you that are interested, I have been trading with TIOmarkets for about a year. They can provide you with everything you need to trade the kind of trading strategy I'm going to show you here.

So if you don't have an account with them, head over to TIOmarkets.com and open one. I’ll also share a promo code in the description of the video you can use when you deposit some funds.

To start, you will need a clean price chart of your favorite instrument. For this demonstration, I will use the Euro versus the US Dollar, on the 4 hour time frame.

Firstly, click on "Insert" at the top left corner of the trading platform. Navigate to "Indicators," then "Oscillators," and select the Relative Strength Index, commonly known as RSI.

Now what we want to do is add a 14 period RSI. Configure the parameters and change the colour and line style to your liking, then click on "OK".

There you have it.

What this will help us with is identifying the relative strength or weakness of the instrument we will be trading as well as generating our trading signals.

The way this RSI trading strategy works is by using the RSI to identify turning points in the market.

Now what we need to do next is add a 50 period simple moving average of price on the chart.

Click on "Insert" once again at the top left corner of the trading platform. Navigate to "Indicators," then "Trend," and select the moving average indicator.

Configure the period setting to 50, like this, then click on OK.

What this will help us with is how to follow the trend, and to filter out some trading signals from the RSI that have a lower probability of success.

This is a simple RSI trading strategy that even a beginner can understand. The only thing that is required to use it is a basic understanding of how to read the charts and the RSI indicator.

Right, so this is how the RSI trading strategy works.

When the price is above the 50 period moving average, you should be bullish. Which means you should only be looking for buying opportunities.

When the price is below the 50 period moving average, you should be bearish. Which means you should only be looking for selling opportunities.

If you understand and apply just this to your trading, you will already be ahead of the average trader.

Most people who try trading don't have a methodology and try to trade every up and down movement in the market. That can get you into trouble.

What you should be doing is identifying the trend and trading in the direction of the trend.

So now you know what side of the market you should be focusing on. The next question is, when to buy or sell, or what are the trading signals for this strategy?

Buy and sell signals for this RSI trading strategy

I will try to keep this simple, because the RSI is intended to indicate two things.

The first thing it indicates is when an instrument is overbought and when it is oversold. Or in other words, when it is expensive and when it is cheap.

This can be used to generate trading signals but I wouldn't recommend it because it can be quite unreliable at times.

You will find that even though the indicator is overbought or oversold, the price can keep going up or down for extended periods of time.

The second thing from RSI trading strategy is that it can indicate convergence or divergence with price. Which is a far more reliable indicator to use for trading signals.

This is how this works.

There will be situations where the price and the RSI move in opposite directions. Meaning, the price will either make higher highs while the RSI makes lower highs.

Alternatively, there will be times when the price will make lower lows while the RSI makes higher lows. When price and the RSI diverge, it provides us with a heads up that momentum is likely going to shift. So you can position yourself to trade the reversals.

Let me show you an example.

Do you see these two lows in the RSI here? The second low is higher than the previous low but look at what the price has done.

It has continued to make a lower low. This is also an example of divergence. And we can see what happened next, the price reversed and started an uptrend.

Let me show you another example.

Do you see these three peaks in the RSI here? Each peak is lower than the previous but look at what the price has done.

It has continued to make higher highs. Each peak is higher than the previous one. This is divergence and what we can expect to happen next is for the price to fall.

Then there will be situations where the price and the RSI move in the same direction. Meaning, the price will either make higher highs and the RSI does the same.

Alternatively, there will be times when the price makes lower lows and the RSI does the same.

When the price and the RSI converge, it can also provide us with a heads up that momentum is likely going to shift. So you can position yourself to trade with it.

Let me show you an example.

Do you see these two peaks in the RSI here? Each peak is lower than the previous and there are also two corresponding lower peaks in the RSI.

This is what we refer to as convergence and price continued to create another swing low afterwards.

The same thing applies to the lows. Look at this example here.

This low in price is higher than the previous low and the two corresponding lows in the RSI were also higher. Then price resumed the up trend.

I like to look for convergence or divergence that involves three highs or lows just because it's a stronger signal. Still, convergence or divergence that involves two highs or lows is also good too.

Now you know what direction to focus on and what constitutes a buy or a sell signal but I will summarize everything for you now.

RSI trading strategy summary

When the price is above the 50 period moving average, you should only be looking for buying opportunities. The buy signal occurs when the lows in the price converge or diverges with the RSI.

When the price is below the 50 period moving average, you should only be looking for selling opportunities. The sell signal occurs when the highs in the price converge or diverges with the RSI.

It's that simple and I probably know what you are about to say. Should I wait for 3 or just 2 highs or lows? What should I do if price starts going in the opposite direction? When do I get out to stop losses or take profits?

This is where your risk management comes in.

You should already know that no trading strategy is right 100% of the time. Every trading strategy has losing streaks.

You just need to implement rules to limit losses, while simultaneously trying to maximize your profit potential.

Let me show you some ways you can do that with stop loss placements and profit targets.

Managing your trades

So, the first thing you might want to consider is the structure of the market.

If the price moves in the opposite direction and goes above or below the most recent high or low it might be a good idea to close the trade and accept a small loss.

Now for the potential profit targets. I have two techniques you can use here.

The first technique will allow you to let the profitable trades run. So as long as you do not see any divergence between the price and the RSI you stay in the trade.

You just wait, let the trade run and get out when you see divergence. If you are patient and disciplined enough to do this, you might catch some mega trades.

The second technique is to close the trade when the RSI trading strategy indicates that the instrument is overbought or oversold.

This would be the 70 and 30 levels respectively.

When the RSI crosses above the 70 level, you can close your buy position. When the RSI crosses below the 30 level, you can close your sell position.

Yes, there are going to be times when it wont get there but you have the first technique to fall back on.

You can take this system as is or customize it to your liking to make it your own. This is a very simple RSI trading strategy that can be used in any market and on any time frame.

If you like fast action and want to trade more frequently, then focus on the lower time frames.

If you can't monitor the charts that often, then focus on the higher time frames. Just pick one instrument and a time frame you are comfortable with, and give it a try.