The Relative strength indicator (RSI) is an indicator used by technical analyst to determine if an asset is over bought or oversold, but it also can be used as a divergence indicator when trading binary options. The RSI can be used alone, or in conjunction with other indicators to create a robust signal to trade the binary options market.
The most common way to use the relative strength indicator is as a mean reverting indicator that would alert a trader that momentum in the asset is slowing and a potential bottom could be near. The RSI measures recent closes relative to further closes to determine if momentum is accelerating or slowing. The RSI creates an index, which determines overbought levels or oversold levels. The index is measure from 100 to 0 where levels above 70 are considered overbought, where levels below 30 are considered oversold.
The chart below examines 2 specific ways that a trader can initiate a binary options trade using the relative strength indicator. When using the index as specifically an overbought or oversold index, a trader can look for periods where the hourly chart of an asset meets the overbought or oversold criteria. The WTI chart below shows two specific periods where the hourly chart had an RSI index readying below the 30 level. This can be used as a coincidental indicator meaning that the market should snap back to a mean relatively quickly. A second way to use the RSI is to look for periods where the RSI and the price chart diverge. A divergence occurs when the price bar rises to a new recent high, and the RSI does not create a new high. An example of divergence is displayed in the chart below. Both strategies can create robust results when trading binary options. The combination of a reading above 70 or below 30 combined with a divergence in prices with the RSI is even a more powerful indicator.
To trade the binary options market with the RSI, above and below, hit or miss and range options all can give a trader robust returns. For mean reversion using the RSI indicator, a trader can buy an above option when the market reaches 30 and buy a below option when the market reaches 70. Another strategy would be to buy a miss option and place your miss range below the market when the RSI gets to the 30 (or even 20 level). The reverse can be transacted when the market gets to the 70 (or 80 level). When a divergence comes, a trader can also use a below option to take advantage or prices moving down, and an above option for a divergence on the downside.
The RSI indicator works well with many assets and a trader should test multiple assets with this indicator to find the assets that work best with the relative strength indicator.