There are hundreds of technical analysis tools available for traders to use. Two indicators or methods may sound the same though they are very different from each other. One of the indicators that often confuse traders is the relative strength index (RSI) and the relative strength (RS).
In this article, we will explore how the two differ from each other and how you can use these two together for better analysis.
Relative strength
Relative strength is a method used to find out how two securities are performing relative to each other. This method is also used to compare a stock to a benchmark. Markets or sectors can be compared with each other, etc.
The formula is, RS = Price change of security A / Price change of benchmark index (same period).
For example, if stock A gained by 2% whereas the benchmark gained by 1% this year, the RS for security A will be 2. In the same period, Stock B gained 4%; its RS would be 4. Security B outperformed Security A.
If the security is rising more than the benchmark or falling less than the benchmark, it is outperforming, and if the security is rising less than the benchmark or falling more than the benchmark, it is underperforming.
Also read: Here’s how you can use the MACD indicator
Relative strength Index
RSI RSI is one of the most famous technical indicators. This index measures the speed and extent of the price change. This index moves between 0 and 100. The formula for RSI is simple,
RSI = 100 – [100 / (1 + (avg. gain / avg. loss))]
This index is interpreted in various ways. When this index crosses 70, the market is considered overbought, and investors expect a reversal, and when the RSI crosses below 30 it is considered oversold, and investors expect a bounce back. Some investors might choose to use different levels like 80 and 20 or 90 or 10 for overbought and oversold conditions.
The default look-back period of RSI is 14. Traders can also change it to any number they like. RSI is also used along with trend analysis. For example, in an uptrend, oversold RSI can be used to identify buying opportunities and vice versa in a downtrend. Another famous RSI method is the RSI divergence, which uses the highs and lows made by the RSI and price to find possible reversals.
Also read: Technical Analysis Tools: Uses, and Examples Explained
Difference between RS and RSI
Here are the differences between RSI vs Relative strength:
Purpose: RS is used to compare two securities to find out which among them is outperforming or underperforming, and RSI, on the other hand, is used to find out oversold and overbought conditions in a single asset and to suggest possible entries and exits.
Calculation: RS is calculated by dividing the price of one security by the other or a benchmark. RSI is calculated using the average gain and average losses in a given period and is used as an index that moves between 0 and 100.
Application: RSI is useful for making strategies and help identifying entries and exit levels. RS is used to find which securities are performing better than the others while creating a portfolio.
Time frame: RS is used for long-term analysis of two securities by comparing them with each other or with a common benchmark. RSI provides quick short-term trading insights about the most recent price action.
| Criteria | RSI | RS |
| Purpose | Identifying Overbought and Oversold levels | Outperformance and Underperformance among securities |
| Calculation | average gain and loss over a given time period are used | Divide price change of one security by another security or benchmark |
| Application | Trade entry and exit points | Asset selection for portfolio creation |
| Time frame | Short term | Long term |
| Outcome | Values between 0 and 100 | Ratio or percentage |
How to use RS and RSI together?
Relative strength can be used to find the outperforming securities, and on top of that, RSI can be used to identify the buy or sell level in the outperforming security.
For example, an investor compares ten banking stocks to the Bank nifty index and concludes that Axis Bank has the highest RS among the ten chosen stocks. At the same time, the RSI for Axis Bank is at 10, which is an oversold zone. So, he decides to initiate a long position.
This is just one of many combinations used by traders to analyze the markets. You can test these two methods with each other or with other methods and try different time frames to find the best strategy. Do not forget to test your plan.
Also read: What is trend analysis? [Explained]
Bottomline
Now, you clearly understand the difference between relative strength and relative strength index. It is time for you to try some iterations of these methods independently and with each other. Try moving the RSI default setting from 14 to 20 or any other level. Similarly, plot the RS line and try studying it. You can use StockGro’s virtual trading feature to place trades using these methods. Use proper risk management techniques.
This article is for educational purposes only, not trading advice.
FAQs
1: Is RSI profitable?
The RSI index can be profitable if it is properly back-tested before using in live markets. Once your RSI strategy shows good results in backtest, you can try to deploy it in live markets using proper risk management and position sizing techniques.
2: How do you trade using RSI?
The conventional method is to sell when the RSI moves above 70 and buy when it moves below 30. However, this method no longer works due to its mass usage. Traders have to try using the RSI with other tools or try adjusting the RSI settings to find something that works.
3: What if RSI is at 50?
It depends on where the RSI line is coming from. If the RSI is falling from higher levels and it is now at 50, that might mean the market is losing momentum and vice versa. Without past context, the value of RSI today at 50 has no meaning.
4: When was the RSI index created?
RSI was first introduced in 1978 by J. Welles Wilder Jr. in his book New Concepts in Technical Trading Systems. Wilder is also credited with the creation of other famous indices like the ADX, Parabolic SAR, etc. RSI is used widely in many trading systems today.
5: What are the risks of using the RS method?
The RS (Relative Strength) method risks include overemphasis on past performance, potential underperformance during trend reversals, and neglect of fundamentals. It may lead to buying overvalued assets or selling undervalued ones, increasing vulnerability to false signals.
