Relative Strength Index and Its Failure-Swing Points

Is it time to sell? Is the Royal Bank of Canada overbought at the 70 level? Maybe, but then again maybe not. Let's have a closer look. On Apr 19, 2002, the issue peaked out at 78.81, the highest RSI value in over 12 months, and the stock price closed at $36.20, a fairly large move from the level of about $28.00, which occurred back in late Sept 2001. This is not bad for a big bank that already pays a respectable dividend. To the question of selling, the answer would have been "yes". Those who hit the sell button that day as the RSI value passed through the 70 level would have had their reaction confirmed later the next week when the high established on the 19th was not exceeded, and thus the failure swing resulted, whereby the sell point appeared again at the $35.50 level on May 3. (See the blue in the chart arrow)

Chart Created with Tradestation

Chart Created with Tradestation

In the third chart, July 26 is the date of failure swing confirmation as the low set on the 24th was not exceeded, and the stock price headed north one more time. One needs to understand that an issue can continue to fall off the table even after the value drops below 30; furthermore, investors need to confirm that the issue is strong enough to turn the corner and increase in price instead of continuing to lose stock value.

The key to successful trading when using the relative strength index is recognizing failure-swings points. In simpler terms, some have described a failure swing as purely a confirmation of the impending reversal in trend. Another point of interest is the move above and below the centerline of 50. Many technicians will look at a move above 50 as a representation of average gains surpassing average losses and thus of a bullish sentiment in the stock price. Conversely a level below 50 signals a bearish market as average losses have overtaken the average gains.

In the future, as you look very closely at the relative strength index, make sure you recognize the failure-swing points and confirm the potential breakout.