I have already talked about the most important and useful indicators that we can trust and use: What Indicators Can We Trust and Do We Need the Most?
Also, two weeks ago, I published another article focused on MACD and the way I use it: How to Use MACD Indicator?
I recommend you to read those articles carefully. They are very useful to help you confirm the trade setups you locate.
After candlesticks, Bollinger Bands and MACD, RSI indicator is the last useful indicator that I can recommend. In spite of this, still I do not have RSI and MACD on my charts. Candlesticks and Bollinger Bands are the only indicators I use, because my experiences have proven that the strong setups that I trade, don’t have to be confirmed by any other indicator, and candlesticks and Bollinger Bands are enough. And when the setup is not strong, even the MACD and RSI confirmation doesn’t help, and in most cases the positions that are taken based on the weak setups will end to loss. So, for me there is no point to have the MACD and RSI on my charts.
However, as RSI is the last useful indicator that I know, I like to have a few articles about it and tell you about the exceptional features that it has. At the end, it is “you” who has to think and decide about the indicators you like to have on your charts. If you ask me, I say although MACD and RSI are good indicators, candlestick and Bollinger Bands are enough to keep our trading as simple as possible and make money without any problems. We should keep our trading system as simple and possible.
Before talking about RSI support and resistance breakout, I recommend you to read this article one more time to know why candlesticks and Bollinger Bands are enough for me: What Indicators Can We Trust and Do We Need the Most?
RSI or Relative Strength Index:
RSI stands for Relative Strength Index. I don’t want to bring its formula here, not to make the life too complicated. Its formula has no importance. The only important thing is that we know how to use the indicator to pick the setups. It is the same with the other indicators too. I have been using the Bollinger Bands for over 20 years. It has helped me to pick too many strong setups and make a lot of money, but still I don’t know what its formula is exactly. The formula doesn’t work for me. I should only know how to use the indicator.
RSI default setting is 14. However, I prefer to use 9, because it makes the RSI highs and lows more visible. So here we are using RSI(9).
RSI looks like a very simple indicator on the charts, but indeed it has some unique features that can not be found with the other indicators. Like the price graph, RSI also forms highs and lows that can be connected to each other and create some support and resistance lines. Like the support and resistance lines that we plot on the price graph, the RSI support and resistance lines can also be tested, broken and retested. This RSI great feature becomes even more interesting when you know that sometimes RSI support/resistance breakout occurs one or two candlesticks before the price support/resistance breakout. And this feature can be used as the leading signal indicating that the price support or resistance will be broken very soon too. It helps us get ready to take a position before the price support/resistance breakout.
Here, I am going to show you the famous example I have usually had on my articles in the past few weeks. It is the short trade setup that formed on EUR/USD daily chart. The 2014.05.08 candlestick formed a very strong bearish engulfing pattern on EUR/USD daily chart. In addition to strong bearish engulfing that this candlestick formed, its upper shadow also broke out of the Bollinger upper Band very strongly.
I went short after the 2014.05.08 candlestick close and while the next candlestick was forming. I did this just based on the bearish engulfing pattern that the 2014.05.08 candlestick formed, not based on anything else. However, those traders that such a candlestick pattern is not enough for them to go short, were waiting for another trade setup which was the breakout of the the support line that was already formed on the EUR/USD daily chart.
As you see on the below screenshot, there is a support line on the price graph (from the 2014.04.04 to 2014.04.30 candlestick). This support line was finally broken by the 2014.05.09 candlestick. At the same time, a similar support line formed on RSI, but with this difference that the RSI support line broke when the 2014.05.08 candlestick closed (which is exactly the time I went short based on the bearish engulfing formed by the 2014.05.08 candlestick).
The traders who were waiting for the price chart support line breakout, could go short only after the 2014.05.09 candlestick close, which is one day later than me and 80 pips below my sell price. This is not that good. However, if they had the RSI on their charts, it could help them trust the 2014.05.08 candlestick sell signal, and go short one day earlier and with an 80 pips higher price. Please look at the below screenshot and see how the RSI support was broken one day earlier than the price support line breakout:
Here is another example:
The below screenshot shows that the price resistance broke when the candlestick #2 closed, but the RSI resistance broke by the candlestick #1. I mean the RSI resistance was broken one candlestick sooner than the price resistance.
Those who like to trade based on the technical analysis and support and resistance breakout, can have the RSI(9) on their charts and take the advantage of the early and leading breakouts that RSI forms. Even if they don’t enter after the RSI support/resistance breakout, at least they will be informed that the price support/resistance will be broken by the next candlestick. This helps them not to miss the trade setups.
RSI has some other good and useful features that I will describe in other articles.