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Stochastic RSI

What is Stochastic RSI?


The Stochastic RSI is based on two oscillators which show the best moment to start a trading cycle. The first one - Relative Strength Index (RSI) - is a well-known and popular tool used by many technical analysts across the globe. It’s also multi-purpose as it has several patterns like divergences (both confirmative and reversal), strength levels pointing to trend’s direction and overbought/oversold levels to assess when the market is getting exaggerated. The Stocastic RSI oscillator has a similar mathematical formula, but in this case, we’ll use it as a secondary tool whether to confirm or deny signals coming from RSI indicator. Another useful option of the combination is that different periods and settings might adjust the system for different underlying assets.

How to calculate stochastic RSI:
Stochastic RSI = (RSI - Lowest Low RSI) / (Highest High RSI - Lowest Low RSI)
Use a very common 14 Period Stochastic RSI.

How to read stochastic RSI?


Stochastic RSI indicator - Start Buy Signal

As far as we’re looking for a reversal pattern, we should focus on RSI overbought levels for trading on put options and oversold levels when considering a CALL options trading cycle. The primary model is easy to identify. Stochastic RSI has to cross the 70 level from below, stay in the overbought territory for a while, reverse and go back below it. That’s the moment when we start monitoring the Stochastic Oscillator. Once it slides below the 50% level, we start buying PUT options. CALL options trading should be considered with an opposite pattern. RSI falls below the 30 level, signalling oversold territory, and edges up after some time, crossing the threshold from below. If the Stochastic goes above the 50% level, we start buying call options. Both oscillators periods should be modified from the default settings (RSI 13, Stochastic 11,3,3).

If you like this strategy, you might also be interested in this Chaikin Oscillator
Stochastic RSI - Tme to Stop Signal

There are several approaches on when should traders stop the trading cycle. Some analysts prefer using pre-determined price levels for each asset. For example, if EUR/USD moves 15-20 pips, then it’s time to stop. Those distances vary depending on assets’ volatility and trading volume. Another option to monitor the best exit point is to find the opposite pattern. For instance, if we were buying call options and RSI went into the overbought territory, then it’s worth grabbing your money and run.

An example of the system is shown below:

Stochastic RSI


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