Technical Classroom | Leading indicators: RSI and MACD

a) Relative Strength Index (RSI):

The relative strength index (RSI) is a momentum indicator that measures the magnitude of recent price changes to evaluate overbought or oversold conditions in the price of a stock or other asset.

The RSI is displayed as an oscillator (a line graph that moves between two extremes) and can have a reading from 0 to 100. Traditional interpretation and usage of the RSI is that values of 70 or above indicate that a security is becoming overbought or overvalued and may be primed for a trend reversal or corrective pullback in price.

An RSI reading of 30 or below indicates an oversold or undervalued condition.

b) Moving Average Convergence Divergence (MACD):

Moving Average Convergence Divergence (MACD) is a trend-following momentum indicator that shows the relationship between two moving averages of a security’s price.

The MACD is calculated by subtracting the 26-period Exponential Moving Average (EMA) from the 12-period EMA. The result of that calculation is the MACD line. A nine-day EMA of the MACD, called the "signal line," is then plotted on top of the MACD line, which can function as a trigger for buy and sell signals.

Traders may buy the security when the MACD crosses above its signal line and sell - or short - the security when the MACD crosses below the signal line.

(The author is Derivatives & Technical Analyst at Motilal Oswal)

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