RSI Trading Strategy (91% Win Rate): Backtest, Indicator, And Settings

The RSI trading strategy identifies overbought and oversold conditions in markets, measuring momentum on a scale. Readings above indicate overbought, while below signify oversold. Traders monitor divergence between price and RSI for potential reversals, often confirming with other indicators. Effective risk management and combining RSI with other tools are vital.

This article examines how the RSI indicator works and how to develop an RSI trading strategy. The Relative Strength Index (RSI) was developed by Welles Wilder and first introduced in a magazine called Commodities (now Futures) in June 1978. Wilder published a book in the same year called New Concepts In Technical Trading Systems (he also published the ADX indicator in the same book, an indicator we will cover later). The RSI has become one of the most widely used indicators for traders.

Our research indicates that RSI is one of the most useful indicators for trading strategies. However, it works best together with a second indicator or variable. Filters or additional criteria are needed for the RSI to be used in a trading strategy. The indicator works best on securities that are mean-reverting.

(At the bottom of the article, we provide a video with a backtested RSI trading strategy with a win rate of 91%.)

Most websites present the Relative Strength Index by using anecdotal evidence. But you need to backtest to determine if something has any predictive value. In this article, we show you how to use the RSI indicator.

We have backtested trading systems for over 20 years and can confirm that the RSI works reasonably well on stocks and stock indices. As such, the RSI can be used in mean-reverting trading strategies, but only when you add some more criteria, variables, or filters.

RSI

The Relative Strength Index formula (RSI)

The RSI is an oscillator that measures the magnitude of both gains and losses over n days. You decide the number of days, normally adjusted to the time frame of your analysis. The value of RSI can be a maximum of 100, and the minimum can be zero.

The values oscillate, and a low value is considered more bullish than high reading. The main idea is to use it as an overbought or oversold indicator. Thus, RSI works only on mean-reverting assets.

The Relative Strength Index formula reads like this:

RSI = 100 – (100 / (1+RS))

RS = average of up closes of the last n days/average of down closes of the last n days

In practice it works like this for a fourteen-day period:

  1. Add the percentage gains on up days (from close to close). Divide the sum by 14.
  2. Add the percentage of down days (from close to close). Divide the sum by 14.
  3. Divide number one (the average up days) by number two (the average down days). This is the RS in the formula.
  4. Put RS (number three) into the formula above.

This is it. It’s of course cumbersome to do the calculations, but that’s why we have spreadsheets and trading platforms. All software packages have the RSI built into their charting, so there is no need to use this formula, except for understanding how it works.

How to interpret the RSI-formula

The RSI can be used in many ways, but this article briefly looks at the two most popular ways to use the indicator:

Overbought and/or oversold – mean-reverting strategies:

Because the RSI oscillates between 0 and 100, it is mostly used to pinpoint when the security is oversold or overbought. A low reading indicates it has fallen in price, and a high reading indicates it has risen and thus might signal it is overbought.

Here is an example of how a seven-day RSI oscillates:

Relative strength index (RSI) strategy
The RSI indicator oscillates between 0 and 100.

The indicator is in the lower pane and clearly shifts from oversold to overbought quite frequently.

Also, notice how the RSI gets oversold in a rising and trending market. This is because it’s a relative index – as the indicator’s name implies. It only measures the relative performance over the last n number of days. If those days have shown little volatility, then even small changes in the price make the RSI leap up or down.

RSI trading strategy backtest

The first example is a 2-day RSI strategy where we buy when it crosses below 15 and sell when it exceeds 85. We get this equity curve:

Relative strength index (RSI) backtest
Buy when RSI(2) crosses below 15 and sell when it crosses above 85.

This simple RSI strategy performs just a tad worse than “buy and hold” from 1993 until November 2020. A 100 000 investment compounded to 861 000.

Considering the RSI strategy spends only 42% of the time invested and has less drawdown than “buy and hold” (33% vs. 55%), it shows how even simple strategies can perform well, even though we would modify and add variables. However, you must factor in that the test ignored commissions, slippage, and taxes.

Let’s switch to a long-term RSI of 10 days. A longer-term RSI means there are fewer extreme variations in RSI, and thus we lower our threshold limits: we buy below 30 and sell above 70. The equity curve reads like this:

Relative strength index (RSI) trading rules
A longer time frame produces less profits on the S&P 500 compared to a  two-day time frame.

A ten-day RSI strategy produces half the result compared to a two-day RSI, albeit spending about the same amount of time in the market. The drawdowns are bigger as well.

Where is the sweet spot? Our research indicates shorter time frames work best for the RSI (on stocks). We like to use a time frame lower than ten days; the best result has come with two and three days. However, you need to work with backtesting yourself to find out what works and what doesn’t.

Key Statistics and Insights on RSI Trading Strategy

Before delving into the statistics of the RSI trading strategy, it’s essential to understand its significance in identifying overbought and oversold conditions in the market. The strategy has been backtested extensively, revealing valuable insights into its performance across different time frames and asset classes.

StatisticValue
Win Rate91%
Average Gain per Trade0.82%
RSI Success Rate91%
Max Drawdown (Short-term, 2-day RSI)33%
Max Drawdown (Long-term, 10-day RSI)33%
Time Spent Invested (Short-term RSI)42%
Time Spent Invested (Long-term RSI)42%
Best RSI Settings (for short time frame)2-6
Optimal Time Frame for RSI StrategyDaily bars
Historical Performance (S&P 500, since 1993)Compounded from $100,000 to $861,000

These findings highlight that shorter time frames generally yield better results for RSI strategies, with a notable reduction in drawdowns and improved success rates. However, combining RSI with other indicators can further enhance its effectiveness.

What happens if an RSI Indicator is oversold or overbought?

When a stock is oversold according to the RSI indicator, it suggests that the price has fallen too much, potentially presenting a buying opportunity. When it’s overbought, it indicates the price has risen too much, possibly signaling a selling opportunity.

Trading is about odds and probabilities. It’s impossible to know if a trade will turn out good or bad if a stock is oversold. That’s why you need to backtest an indicator. Furthermore, it depends on the asset class you are testing. The Relative Strength Index works best on stocks and performs worse on other assets.

RSI-Trading-Strategy

RSI divergences:

Chart readers and technical analysts (we are not among them) believe a divergence between the price and the indicator is a strong signal. An RSI divergence occurs like this:

  • Bullish divergence: when the price sets a new low while the RSI doesn’t. This is a buy signal.
  • Bearish divergences: when the price sets a new high, while the RSI doesn’t. This is a sell signal.

Here are examples:

Relative strength index (RSI) settings
RSI divergence.

The problem with divergencies is that they are established after the fact. We can only spot divergencies in hindsight, which is not very useful. Additionally, they are harder to quantify and program into helpful code. Our experience is that this signal serves little practical use for traders.

What are the best settings with RSI indicators?

The best setting for the RSI indicator is between 2 – 6. These are the settings we have found most valuable after conducting hundreds of backtests for RSI indicators. There are no standard settings for which values offer the best thresholds. You need to tweak and test to see what has worked in the past and what hasn’t.

Just as the time frame can vary from asset class to asset class, the threshold numbers depend on the time frame, the trend of the instrument, and the responsiveness you want.

We have found out that short time frames work best for the RSI. This means we need to use more extreme values like, for example, 15 for oversold and 85 for overbought. If you use a time frame of ten days, you are less likely to see readings of 15 or less.

Thus, a typical buy signal occurs when the reading shows values of 15 or less. If the reading is above 85, it’s considered a bearish signal as the asset is overbought.

Perhaps needless to say, the shorter the time frame, the more erratic the RSI. A longer time frame usually leads to smoother readings with less volatility of the RSI.

How to use rsi?

Traders often use RSI to generate buy or sell signals when it diverges from the price action. Readings above 70 indicate overbought conditions, while readings below 30 suggest oversold conditions. Combining RSI with other indicators can enhance trading strategies.

What is the best time frame for an RSI strategy?

We believe he best time frame for RSI Stratey is daily bars. But, of course, no absolute answer to this. It all depends on the properties of the markets you are trading. For example, let’s backtest short-term and long-term RSI strategies on the S&P 500.

Can you combine different time frames on the RSI strategy

Yes, you can combine different time frames with the RSI Strategy.

Let’s assume you want only to enter positions in the underlying trend of the instrument. How do you define a trend? You can, for example, use a longer RSI to determine the longer trend while you enter on short-term pullbacks. Combining long-term and short-term RSI can take this form:

The long-term 30-day RSI  must be above 50, and the two-day RSI must be below 15. If both conditions are met, then enter at the close. The exit is when the short-term RSI crosses above 85 (then exit at the close). On the S&P 500, we get this result:

RSI strategy backtest
By combining a long and short RSI the result doesn’t improve.

The result is worse than the original single-RSI formula. This is partly explained by less exposure in the market: it’s reduced from 42 to 27%. However, the max drawdown is the same at 33%.

The above RSI strategy performed pretty well for almost 25 years until it started to crack in the second half of 2017. The biggest loss is a trade that enters on the 21st of February 2020 and exits on the 26th of March 2020 for a loss of 21.5%.

The code in Amibroker is like this:

Buy= RSI(30)>50 AND RSI(2)<15 ;
buyPrice=C;
Sell= RSI(2)>85;
sellPrice=C ;

You can make other twists by combining a long and short RSI that improves the strategy, something we will get back to in a later article.

What’s the historical performance of the Relative Strength Index? (Backtest)

RSI has performed well on stocks, but not so well on other assets. As a finale of this article and study about RSI, let’s make a final backtest on Nasdaq 100 (QQQ) where we backtest the following trading rules. The historical performance of the Relative Strength Index is:

RSI Trading Rules

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These simple rules have resulted in the following equity curve for QQQ:

Historical performance of the RSI indicator
Historical performance of the RSI indicator

RSI success rate

It’s about 300 trades and the average gain per trade is 0.82%, the success rate or win rate is 71%, and the worst drawdown is at 23%. Al in all, pretty good for such a simple strategy!

How do you trade stocks with RSI?

The RSI is a mean-reverting indicator and works best on stocks. As explained above, you must test both the time frame and threshold settings yourself. And it doesn’t work on all stocks. Commodity-related stocks like miners, oil, and coal have historically not worked for mean-reverting strategies. Opposite, the more tedious and less volatile the stock, the better RSI performs.

The best way to use RSI trading strategies

The best way to use RSI strategies is in combination with other tools. These tools can be volume, indicators, relative performance to other stocks or assets, or whatever ace you have up your sleeve.

RSI Trading Strategies

Here is a link to a good RSI trading strategy.

What is the best indicator to use with RSI?

In stocks, RSI works well with the Internal Bar Strength Indicator (IBS). You might want to combine IBS with some of these strategies, for example:

What is Connors RSI?

There exist many versions of the original RSI made by Welles Wilder. The most famous is probably Connors RSI developed by Larry Connors and his team at Trading Markets. We believe the formula serves much better as a marketing gimmick for Connors and his team than anything else. Nevertheless, the formula is the average of three parts:

  • Relative Strength Index (RSI)
  • Up/Down Length (Market Streak Value)
  • Rate of Change (ROC)

In addition to Connors RSI there are many others, like, for example, Cutler’s RSI.

What is Cutlers RSI?

Cutler’s RSI is a variation of the original RSI indicator developed by Welles Wilder. It uses a simple moving average in its calculation instead of the smoothed moving average used in Wilder’s original RSI formula.

RSI backtesting

The above charts were done by using Amibroker. This is a good trading platform, and you can read our thoughts on this link:

Is RSI a good trading strategy?

A good RSI trading strategy uses daily bars, a short lookback period of less than five days, and trades stocks.

Backtests and statistics reveal that RSI is among the best trading indicators, and you find the data and statistics to back it up in an article called which is the best indicator for swing trading?

What is the best RSI setting for day trading?

The best setting for day trading is using hourly bars. The longer the time frame, the better.

The RSI indicator works best on daily bars. We have backtested lots of data using intraday data, but it’s not particularly useful.

How do you trade with RSI?

You trade RSI by using daily bars, using a short number of days in the settings, and looking for oversold conditions.

Statistics reveal that the best setting is a short number of days, preferably a maximum of 5 days. Second, RSI works best on stocks and mean-revertive assets with an overnight edge. RSI doesn’t work well in the forex markets.

Is RSI trading profitable?

Yes, RSI trading is profitable, but it requires backtesting. One size doesn’t fit all. Markets are different. You might also want to read our take on RSI(2) on QQQ.

What are the best settings for swing trading?

The best settings for swing trading is a short number of days for stocks, but this might vary in other markets. We debunked the default RSI-14 setting. Also, as mentioned above, RSI works best for stock trading.

What is a rsi 14 trading strategy?

A RSI 14 trading strategy involves using the Relative Strength Index (RSI) indicator, which measures the magnitude of recent price changes to evaluate whether a stock is overbought or oversold. The RSI is calculated based on the average gains and losses over a specific period, typically 14 days.

In this strategy, traders look for signals generated by the RSI to make buy or sell decisions. When the RSI value rises above 70, it suggests that the security is overbought, indicating a potential reversal or correction in price. Conversely, when the RSI falls below 30, it indicates that the security is oversold, suggesting a potential buying opportunity as the price may rebound.

Traders may use additional indicators or analysis techniques to confirm RSI signals and avoid false signals. For example, they might look for divergence between price movements and RSI readings, or they might incorporate trend analysis to ensure they’re trading in alignment with the overall market direction.

Overall, a RSI 14 trading strategy can be a useful tool for identifying potential entry and exit points in the market, helping traders capitalize on short-term price movements while managing risk.

Can the RSI indicator also be used as a momentum indicator?

The RSI indicator can be used as a momentum indicator but you need to formulate specific and quantified trading rules.

We have backtested an RSI momentum strategy in a previous article, but it didn’t work on stocks. No market is the same because RSI momentum works on crypto.

Can you use RSI on other bars than daily bars?

Yes, you can use RSI on other bars than daily bars, but statistics reveal that daily bars are best.

RSI 14 vs 21

The choice between RSI 14 vs RSI 21 depends on your trading style, preferences, and the timeframe you’re analyzing. RSI 14 may provide more sensitive and quicker signals, suitable for shorter-term traders, while RSI 21 may smooth out the fluctuations and offer signals that are more reliable for longer-term trends.

In essence, RSI 14 reacts more quickly to price changes, which may result in more frequent signals, while RSI 21 provides a broader perspective, which can help filter out noise and provide a clearer view of the underlying trend.

How is RSI used in day trading?

RSI is used in day trading as in any other RSI trading because the principles are the same. However, statistics and performance evaluations indicate that the longest intraday time frames work better than short time frames.

Amibroker, Tradestation, and Python code for RSI

We have provided code and plain English (for python etc) and strategies for a lot of RSI strategies that you can find on our page for free and backtested trading strategies.

You might also want to have a look at our shop

RSI trading strategies video – 91% win rate

We have made two videos that are related to the RSI indicator:

Does RSI work?

Yes, the RSI works on stocks and in many other asset classes. But you must use it with some other indicator(s) or variable(s). On its own, the RSI works, but by adding some filters it can be improved a lot. An RSI trading strategy can come in many different forms!

RSI Trading Glossary

If you are new to trading, you might be intimidated by the terms and words used in this article and what you find on the web. To help you come to ease with some of it, we made a glossary for you:

  1. Bullish Divergence: A pattern where RSI makes higher lows while prices make lower lows.
  2. Bearish Divergence: A pattern where RSI makes lower highs while prices make higher highs.
  3. Crossover: When the RSI crosses above or below a specific threshold, indicating potential buy or sell signals.
  4. Overbought: RSI level above 70, suggesting that an asset may be overvalued and due for a correction.
  5. Oversold: RSI level below 30, suggesting that an asset may be undervalued and due for a rebound.
  6. Centerline: The midpoint (usually 50) of the RSI scale, used as a reference point for trends.
  7. Divergence: A discrepancy between RSI and price movements.
  8. Exponential Moving Average (EMA): A type of moving average that gives more weight to recent prices.
  9. Golden Cross: When the RSI crosses above its 50 centerline, indicating potential bullish momentum.
  10. Death Cross: When the RSI crosses below its 50 centerline, suggesting potential bearish momentum.
  11. Head and Shoulders: A reversal pattern identified using RSI.
  12. Hodling: A misspelling of “holding” used in crypto communities to denote not selling assets.
  13. Ichimoku Cloud: A technical indicator used in conjunction with RSI.
  14. Lagging Indicator: An indicator that follows price movements, like RSI.
  15. Leading Indicator: An indicator that predicts future price movements.
  16. Moving Average Convergence Divergence (MACD): A popular technical indicator used alongside RSI.
  17. Support: A price level where an asset tends to find buying interest.
  18. Resistance: A price level where an asset tends to encounter selling pressure.
  19. Whipsaw: A situation where RSI generates a false signal, resulting in losses.
  20. Breakout: When prices move above or below a significant level.
  21. Trendline: A line used to identify trends in RSI.
  22. Confirmation: When other indicators support RSI signals.
  23. Fibonacci Retracement: A tool used to identify potential reversal levels.
  24. Gap: A discontinuity in price movements.
  25. Harami: A candlestick pattern used with RSI.
  26. Intraday: Trading within a single day.
  27. Liquidity: The ease with which an asset can be bought or sold without affecting its price.
  28. Margin Trading: Borrowing funds to trade larger positions.
  29. Market Order: A type of order executed immediately at the current market price.
  30. Moving Average: An indicator used to smooth price data.
  31. Order Book: A real-time list of buy and sell orders for an asset.
  32. Pivot Point: A significant price level used in RSI analysis.
  33. Range: The difference between an asset’s high and low prices in a given period.
  34. Risk Management: Strategies to minimize potential losses in RSI trading.
  35. Short Selling: Selling an asset you don’t own in hopes of buying it back at a lower price.
  36. Swing Trading: Holding positions for several days to capture short to medium-term price movements.
  37. Technical Analysis: Analyzing historical price data to make trading decisions.
  38. Volume: The number of units of an asset traded in a given period.
  39. Moving Average Cross: A trading strategy involving the crossover of two moving averages.
  40. Relative Strength: A comparison of an asset’s performance to a benchmark.
  41. Volatility: The degree of price fluctuations in an asset.
  42. Leverage: Using borrowed capital to amplify potential gains (and losses).
  43. Crypto: Short for cryptocurrencies, digital or virtual currencies.
  44. Liquidity Pool: Funds provided by traders for others to trade against.
  45. Market Cap: The total value of a cryptocurrency in circulation.
  46. Orphan Block: A block that is no longer part of the blockchain.
  47. Pump and Dump: Manipulative trading scheme to inflate and then sell an asset’s price.
  48. Stablecoin: A cryptocurrency designed to have a stable value.
  49. Whale: A person or entity holding a large amount of cryptocurrency.
  50. Yield Farming: Earning rewards by providing liquidity to DeFi platforms.
  51. RSI (Relative Strength Index): A momentum oscillator that measures the speed and change of price movements, indicating overbought or oversold conditions.
  52. Overbought: A condition in which an asset’s RSI exceeds a certain threshold (usually 70), suggesting that it may be due for a price correction.
  53. Oversold: A condition in which an asset’s RSI falls below a specific level (typically 30), indicating potential buying opportunities.
  54. Divergence: A phenomenon where the RSI and price movement move in opposite directions, signaling a potential reversal.
  55. Bullish Divergence: Occurs when the RSI makes higher lows while the price makes lower lows, indicating potential upward price movement.
  56. Bearish Divergence: Occurs when the RSI makes lower highs while the price makes higher highs, suggesting a possible downward price trend.
  57. Period: The number of price bars or periods used to calculate the RSI, typically set at 14 but can be adjusted.
  58. EMA (Exponential Moving Average): A type of moving average that gives more weight to recent prices, often used to smooth RSI values.
  59. SMA (Simple Moving Average): A basic moving average that equally weighs all prices within the selected period.
  60. Wilders Smoothing: A method used to calculate RSI that gives greater importance to recent price changes.
  61. Range-Bound: A market condition where prices trade within a relatively narrow range, making RSI a useful tool to identify potential breakouts.
  62. Breakout: A significant price movement that extends beyond a range-bound market, potentially signaling a new trend.
  63. Overbought Pullback: A trading strategy that involves selling when the RSI is overbought and then buying during a pullback.
  64. Oversold Bounce: A trading strategy that involves buying when the RSI is oversold and then selling during a bounce or rally.
  65. Bullish Cross: When the RSI crosses above a certain level (e.g., 30), suggesting a potential uptrend.
  66. Bearish Cross: When the RSI crosses below a specific level (e.g., 70), indicating a potential downtrend.
  67. RSI Channel: A graphical representation of the RSI’s upper and lower boundaries, used to identify overbought and oversold conditions.
  68. Volatility: A measure of an asset’s price fluctuation, affecting RSI values and signal reliability.
  69. ADX (Average Directional Index): An indicator used alongside RSI to measure the strength of a trend.
  70. RSI Convergence: When the RSI confirms the direction of the price trend, increasing the reliability of signals.
  71. RSI Reversal: A trading strategy that relies on RSI signals to predict potential trend reversals.
  72. RSI Momentum: A strategy focused on capturing short-term price movements based on RSI’s momentum readings.
  73. RSI Breakout Confirmation: Using RSI to confirm breakouts from chart patterns or support/resistance levels.
  74. RSI Trendline: Drawing trendlines on the RSI chart to identify potential trend changes.
  75. RSI Crossover: When two RSI lines cross each other, indicating potential shifts in momentum.
  76. RSI Bullish Divergence Confirmation: Using other technical indicators to confirm bullish divergence signals from the RSI.
  77. RSI Bearish Divergence Confirmation: Similar to #26, but confirming bearish divergence signals.
  78. MACD (Moving Average Convergence Divergence): An oscillator used with RSI to confirm trend strength and direction.
  79. Stochastic RSI: Combining the Stochastic Oscillator and RSI for enhanced signal accuracy.
  80. RSI Swing Trading: A trading approach that aims to capture short to medium-term price swings using RSI signals.
  81. RSI Scalping: A high-frequency trading strategy that attempts to profit from small price movements using RSI.
  82. RSI Day Trading: Using RSI signals for intraday trading, typically closing all positions before the market closes.
  83. RSI Position Trading: A longer-term approach that relies on RSI signals for position building and holding.
  84. RSI Backtesting: The practice of applying historical data to test the effectiveness of an RSI trading strategy.
  85. Margin of Safety: Setting RSI thresholds with some buffer to avoid false signals.
  86. RSI Confirmation Indicator: Combining RSI with other technical indicators to increase trading confidence.
  87. RSI Mean Reversion: A strategy that assumes price will revert to its mean after extreme RSI conditions.
  88. Bull Trap: A situation where a brief price increase lures traders into buying before a reversal.
  89. Bear Trap: A scenario in which a brief price decline tricks traders into selling before a reversal.
  90. RSI Trading Plan: A comprehensive plan outlining entry, exit, and risk management rules using RSI.
  91. RSI Periodicity: Adapting the RSI period to suit different trading timeframes.
  92. RSI Histogram: A visual representation of RSI values as bars, making it easier to spot changes in momentum.
  93. RSI Support and Resistance: Using RSI levels as support and resistance areas for price.
  94. RSI Backwardation: A condition where RSI values are decreasing, indicating a possible trend reversal.
  95. RSI Forwardation: When RSI values are increasing, suggesting a potential trend continuation.
  96. RSI Momentum Divergence: A variant of divergence, focusing on momentum changes instead of price.
  97. RSI Rollover: A situation where RSI values cross over a threshold but then roll back, requiring caution.
  98. RSI Breakout Retest: Waiting for a retest of a breakout level on RSI before making a trade decision.
  99. RSI Period Optimization: Experimenting with different RSI periods to find the most effective settings for a particular asset.
  100. RSI Alert: Setting up alerts or notifications for RSI conditions to facilitate timely trade execution.

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