V.3:5 (159-161): Facelift for an Old Favorite by Gregory L. Morris

V.3:5 (159-161): Facelift for an Old Favorite by Gregory L. Morris
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Facelift for an Old Favorite by Gregory L. Morris

"There are many ways in which the Relative Strength Index can be adjusted and redefined."

Technical analysts who have not heard of J. Welles Wilder, Jr., and more specifically, his Relative Strength Index, probably have not delved into the art of technical analysis with much enthusiasm. The Relative Strength Index (RSI) was first presented in his now-classic book, New Concepts in Technical Trading Systems, published in 1978.

Those who are familiar with RSI know that it is a very useful momentum indicator because its range is always between 0 and 100. This alleviates the problem of how high is high and how low is low. Another interpretation is its use as a divergence indication; that is, when the indicator and the price do not follow the same pattern. Normally, at tops, the price will continue to make higher highs while the indicator makes lower highs. When used in this manner, the opposite occurs at bottoms. More on this later.

Just how good is this indicator, especially when everyone is using it!? Let's face it, the indicator was created in 1978 when there weren't too many personal computers around. I was using red, green, and blue pencils along with a desk calculator.

Let's look at the formula for RSI. Basically, it is the average of the last 14 up days divided by the average of the last 14 down days. I am using 14 days in this example because that appears to be the most popular. The data used is the difference between today's close and yesterday's close. If today was up two points, then it is the two points difference that are figured into the formula, not the price itself. The Relative Strength formula is as follows:

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