Relative strength index (RSI)

A momentum oscillator published by J. Welles Wilder in the late nineteen seventies, computed over a look back period whose default is fourteen intervals. Each interval's change is sorted into a gain or a loss, the two are averaged separately using Wilder's smoothing, and their ratio is compressed onto a scale that cannot leave the range from zero to one hundred. A reading near the top means recent gains have been large relative to recent losses; a reading near the bottom means the reverse.

Two conventions do most of the work in practice, and both are conventions rather than findings. The first labels readings above a high threshold as overbought and below a low one as oversold, using the thresholds Wilder himself suggested. The second is divergence, where price makes a new extreme and the indicator does not. Both labels describe the reading. Neither is a statement about the market, and the literature that tests them reaches different conclusions depending on which thresholds and look back it encodes.

The name is the biggest trap in the letter. Relative strength here means a market measured against its own recent history, not against another market or an index, which is a different measure entirely and is what an equity analyst usually means by the phrase. The second trap follows from the first: because the scale is bounded, a strongly trending market can hold an extreme reading for weeks, so an overbought reading is a description of momentum and not evidence that a fall is due. Changing the look back or the thresholds changes every signal the indicator has ever produced, which is why comparisons between published tests are so hard to make.