Identifying overbought and oversold levels with the RSI is as easy as identifying if the RSI line is below the -50 or above the +50 lines. This is extremely important for intraday traders and scalpers because no trader wants to sell the low or buy the high. By identifying overbought and oversold area with the RSI, traders avoid this costly mistake. Just to make sure everyone understands, the RSI indicator is a momentum indicator developed by Welles Wilder. Although the original concept uses a 70/30 area for identifying overbought and oversold levels, the TradersHelpDesk RSI uses a smoothing algorithm and plots the RSI as a histogram based with +50 and -50 areas as the extremes. Additionally, the TradersHelpDesk RSI indicator can also identify divergence between prior highs or lows.
Identifying Overbought and Oversold Levels with the RSI
For example, using the forty-five minute chart below, the TradersHelpDesk RSI indicator identifies the exact areas where Crude Light is most likely to begin a retracement because it clearly identifies the level where Crude is oversold. These are the areas that traders should wait before entering into the downtrend because the RSI is clearly showing that price is in fact oversold. A scalper could also buy at these levels anticipating a retracement from the oversold levels. Click on the chart to expand for a better view.
As you can see from the chart, each time price was making a low and the RSI indicator line was below the white -50 line, price began a retracement. Typically the retracement will go the Average True Range Stop, which is the plus sign on the chart. In other words, price normalizes and the RSI indicator returns to an area above the -50 line, before continuing down. The point of entry with the absolute least risk for a short is at the ATR stop (plus sign). Of course, if price manages to flip the ATR stop, then you would have a minimal loss instead of a large loss.