RSI-Mathematicians and senior members please see

rahulg77 · #1 13th June 2006, 11:24 PM

Hi,

Since the markets are not in our favour and since I have lot of time on my hand I am trying to understand how different indicators work. I believe that understand them and their mechanism will help us use them more efficiently. Today I have more or less understood how RSI formulae works and that too thanks to stock charts. I always thought average gains would be average number of ups divided by those many days but they say it is average gains and declines divided by the number of days RSI is being plotted for. So in 14 day case advances and declines will be divided by 14.

What I want to understand is how divergence occurs in RSI and also with MACD in relation to price charts. If price goes up RSI would go up. What creates a divergence. I am sure the answer would be very simple but my brain refuses to work at this point of time.

Rgds

Rahul

P.S I hope we really do not need a mathematician to undertstand this and the answer would be much more simple than i think.

srisara · #2 13th June 2006, 11:31 PM

for example take Bearish Divergence, prices keep going up but RSI is quite below its latest peak.

So, the trend is loosing momentum and it can turn the otherway anytime. Its a good indicator either to exit or prepare to Short.

Sometime u find Triple Divergences which are more powerful.

Satya

tanewbie · #3 13th June 2006, 11:40 PM

see attached chart for RSI divergences in Nifty in April 2005 and Oct 2005

AJAY · #4 14th June 2006, 01:18 AM

Quote:

What I want to understand is how divergence occurs in RSI and also with MACD in relation to price charts. If price goes up RSI would go up. What creates a divergence. I am sure the answer would be very simple but my brain refuses to work at this point of time.

Hi! Satya and Tane,
Rahul wants to know why divergence happens. Please explain on this. Hope what happens over the divergence, seems he is aware my friends

AJAY

srisara · #5 14th June 2006, 12:18 PM

Quote:

Originally Posted by AJAY

Hi! Satya and Tane,
Rahul wants to know why divergence happens. Please explain on this. Hope what happens over the divergence, seems he is aware my friends

AJAY

Ajay,

thats a good question. Why it happens? Even i too have limited knowledge on this.

I will try to dig some material and will try to post..

Cheers!
Satya

amarnath · #6 14th June 2006, 01:15 PM

Hi,

The simple reason is RSI dont read the price signal correctly which in your case its assumes passes through over bought over sold cycle every 14 periods or units which is raw and invalid .

so to make it more simple it just detrend price every last 14 units as it happens to OS OB alternatively but in case of trending market it behaves same manner to detrend price based on its raw and invalid assumption that a OS or OB level in comming but were are price follow its own course of action to move on it own way which cause divergence i rather calll it inability of indicators or its limitness based on maths its build up to follow price action correctly . Hope it helps

Yes ofcourse TRADING IS NOT A ROCKET SCIENCE NOR ITS PROVEN A ECONOMIST OR MATHAMETICIANS ARE BETTER TRADERS

rajakrsnan · #7 14th June 2006, 04:15 PM

Quote:

Originally Posted by srisara

for example take Bearish Divergence, prices keep going up but RSI is quite below its latest peak.

So, the trend is loosing momentum and it can turn the otherway anytime. Its a good indicator either to exit or prepare to Short.

Sometime u find Triple Divergences which are more powerful.

Satya

could u explain something about the Triple Divergences. ?

Raja Krsnan

rahulg77 · #8 14th June 2006, 04:52 PM

Quote:

Originally Posted by srisara

Ajay,

thats a good question. Why it happens? Even i too have limited knowledge on this.

I will try to dig some material and will try to post..

Cheers!
Satya

Hi satya,

would be great if u could dig on some information regarding the same. Thanks for the effort.

Rahul

karthikmarar · #9 15th June 2006, 01:22 AM

Hi Rahul

Let me try my hand at the explanation of divergence.

RSI is a momentum indicator. Divergence between the RSI and the price takes place when the momentum cools off but the price continues its rise/fall. When the price breaks out there is lot of momentum and the price and momentum keeps increasing/decreasing and as time goes the momentum begins to vain but the prices continues to rise/fall. This disparity between the price movement and the momentum gives rise to the divergence.

Take a simple analogy. Suppose you take a gun a shoot. The bullet travels with high velocity. At certain point in time there is no more acceleration and deceleration starts. But the bullet is still traveling further. The velocity keeps decreasing and the bullet keeps traveling till all the momentum is lost and the bullets falls down.

In a similar manner initial momentum takes the price up. So all the intelligent hands are still buying. Soon the informed hands stop buying and the momentum falls. But still the uniformed hands are desperate to get on to the bandwagon and are buying the stocks. So the price keeps moving up. But the movement is lacking the momentum. Finally there is no more buying interest and the stock starts declining. The disparity between the momentum and the price action gives rise to the divergence.

Divergence by itself does not indicate trend reversal. The trend reversal has to be confirmed by the price action itself. More the number of divergences the more severe the reaction would be. Also the time frame also matters. For example divergence in the short-term trend would indicate trend reversal in the secondary trends. Divergences in the intermediate trend would indicate a trend reversal in the primary trends etc.

Hope I was able to throw some light on the divergence.

Karthik

rahulg77 · #10 15th June 2006, 01:14 PM

Quote:

Originally Posted by karthikmarar

Hi Rahul

Let me try my hand at the explanation of divergence.

RSI is a momentum indicator. Divergence between the RSI and the price takes place when the momentum cools off but the price continues its rise/fall. When the price breaks out there is lot of momentum and the price and momentum keeps increasing/decreasing and as time goes the momentum begins to vain but the prices continues to rise/fall. This disparity between the price movement and the momentum gives rise to the divergence.

Take a simple analogy. Suppose you take a gun a shoot. The bullet travels with high velocity. At certain point in time there is no more acceleration and deceleration starts. But the bullet is still traveling further. The velocity keeps decreasing and the bullet keeps traveling till all the momentum is lost and the bullets falls down.

In a similar manner initial momentum takes the price up. So all the intelligent hands are still buying. Soon the informed hands stop buying and the momentum falls. But still the uniformed hands are desperate to get on to the bandwagon and are buying the stocks. So the price keeps moving up. But the movement is lacking the momentum. Finally there is no more buying interest and the stock starts declining. The disparity between the momentum and the price action gives rise to the divergence.

Divergence by itself does not indicate trend reversal. The trend reversal has to be confirmed by the price action itself. More the number of divergences the more severe the reaction would be. Also the time frame also matters. For example divergence in the short-term trend would indicate trend reversal in the secondary trends. Divergences in the intermediate trend would indicate a trend reversal in the primary trends etc.

Hope I was able to throw some light on the divergence.

Karthik

\

Hi Karthik,

Thank you so much. Yes it did make the concept clear. Now correct me if I am wrong. I found out the calculations using real life numbers. After the first RS we use smoothed RS. I saw the example in this link http://www.stockcharts.com/education...indic_RSI.html

It shows that even the smallest of rise in price the RSI increases. So if the price rise is small and the momentum is slowing down still as per calculations the RSI would increase. I have understood what divergence is saying that the momentum has slowed down and might reverse which should be confirmed by a price action. What is still not clear is how come RSI goes down when price is increasing.

Anyway I think I am complicating things a way too much.

thank you all for answering.

Rgds

Rahul

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