Technical Analysis · Momentum Indicators
RSI: Measuring Overbought and Oversold Conditions
What You'll Learn
- What the RSI indicator is designed to measure
- How its scale is typically read
- Why "overbought" and "oversold" don't mean what they sound like
The Big Idea
Let me introduce the Relative Strength Index, almost always shortened to RSI. It measures the speed and size of recent price changes on a scale from 0 to 100, giving the momentum concept from Reading Markets a specific, numerical value that can be tracked and compared over time.
Let's Break It Down
RSI compares the size of recent upward moves to the size of recent downward moves over a set period, condensing that comparison into a single number between 0 and 100. Readings closer to 100 reflect recent price action dominated by upward moves. Readings closer to 0 reflect the opposite.
Two commonly referenced zones are readings above 70, often labeled "overbought," and readings below 30, often labeled "oversold." These labels describe the recent balance of up-moves versus down-moves reaching an extreme relative to the recent range. They are a statement about recent price behavior, not a judgment about the asset's actual value.
It is genuinely important that I be precise about what these labels do not mean. "Overbought" does not automatically mean a price is too high or guaranteed to fall. "Oversold" does not automatically mean it is too low or guaranteed to rise. A strong trend can keep RSI in an extreme zone for an extended stretch without reversing. The labels describe a statistical extreme in recent momentum, not a certainty about what happens next.
Real Example
Think of RSI as similar to tracking how one-sided a tug-of-war has recently been. A reading near 100 means one side has been pulling overwhelmingly harder recently — not that the rope is guaranteed to snap or swing back the other way immediately. A dominant side can keep dominating for a while longer, even after the reading looks extreme.
Why It Matters
RSI is one of the most widely referenced momentum tools precisely because it turns the abstract momentum concept from Reading Markets into a concrete, comparable number. But understanding its genuine limitations, which I cover next in the divergence lesson, is just as important as knowing how to read the basic scale.
Common Mistake
Please do not treat an "overbought" or "oversold" reading as an automatic buy or sell signal. A strong, sustained trend can keep RSI at an extreme reading for a long stretch of time without reversing. The label alone does not guarantee a reversal is imminent.
Quick Check
What does an RSI reading above 70 ("overbought") actually indicate?
Key Takeaways
- RSI measures the recent balance of upward versus downward price moves on a 0–100 scale.
- Readings above 70 are commonly labeled "overbought"; readings below 30 are commonly labeled "oversold."
- Neither label guarantees a reversal — a strong trend can hold an extreme RSI reading for an extended stretch.
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