The world of cryptocurrency is always full of action, and Bitcoin, as the leader and flagship, often takes the front seat. There, the recent talk has been all around the Relative Strength Index (RSI). It’s an early momentum indicator, and it’s sending out some very intriguing signals! As a journalist deeply entrenched in the financial markets, I've learned that these signals, while tempting, require a nuanced understanding. Given action on the current RSI trajectory in Bitcoin and most of the large-cap cryptocurrencies, many display themselves as overbought. This is a time for deliberate care as investors move forward.
The RSI (relative strength index) is a technical analysis instrument designed to spot overbought and/or oversold conditions. It literally ranges from 0 to 100. Values greater than 70 typically indicate overbought conditions, and values less than 30 show oversold conditions. The traditional interpretation is simple: when the RSI crosses above 70, it's a bearish signal, suggesting a potential price decline. When it falls below 30, it is a bullish indicator, suggesting a future upward movement in price. In my experience, trusting only these rudimentary signals is a dangerous gamble.
Watching an altcoin’s RSI shoot above 80 can be painful! Our forums were literally on fire with discussions of short-term plans to get rich. 2018 was hard to watch, as many of my friends and colleagues invested, dazzled by visions of easy riches. Within days, the coin crashed to earth, destroying a lot of dreams in the process. It’s been these types of experiences combined with many others like it that has made me a born again skeptic about overbought signals. Going into these things, I’m pretty skeptical.
The new confusing and frustrating market environment is full of stories. Take ATOM, for example. Its RSI metrics on all timeframes are climbing alarmingly close to overbought territory. The token has seen a 2–300% price explosion over the last month. Its RSI is signalling that a correction might be on the way. In much the same way, BNX is currently sending those same warnings. These are not one off occurrences, a vast majority of other cryptocurrencies are trending in the same direction.
Now, don’t get me wrong – I’m not saying that all such overbought markets predictably crash afterwards. So the RSI is never meant to be a definitive answer, just the warning sign, the alert that you need to look more closely. It's a signal that the trend might be overextended, but it doesn't guarantee a reversal. And that’s where the alchemy of interpretation appears. A high RSI just indicates that price action over the last 12 months has been exceptionally bullish compared to the prior 12 month period. But that doesn’t automatically spell bad news for the sustainability of the rally.
Of all the priceless nuggets of wisdom I have gained, perhaps the most valuable is the importance of looking for divergences. A bearish divergence is when the price action is creating higher highs and the RSI is creating lower highs. This overall indicates that the bullish momentum is slowing down, and a reversal is in play. A bullish divergence occurs when the price is making lower lows. At the same time, the RSI rises above previously established lower highs, signaling an underlying shift in trend. Identifying these differences can offer an important advantage in understanding the market.
In addition, there is a bigger picture market situation that’s important to keep in mind. What’s fueling the rally today? Is it driven by real demand, or is it short-term just speculative mania? What are the deeper foundations to this? What are other big news events coming down the pike that might swing the price one way or the other? These are a few of the key questions that I first ask myself before making any investment decisions.
I’m often in the position of telling other traders to not fall prey to the herd mentality. Don’t follow the herd. Just because your competitors are all buying doesn’t mean you have to buy as well. Take the time to read deeply, scrutinize the data, and arrive at your own independent judgments. Don’t let FOMO get the best of you.
Look tosterm MARA, for example. At first glance, its RSI is pretty low, making it look attractive and like it could be a good buy soon. But before I jump in, I’d like to know a little more about why the RSI is at such a low level. Is this just a seasonal pause, or does it signal something worse? How much future sales does the company have on the books? What are its opportunities for expansion and growth? These are the questions that should be answered before making any investment decision.
The important lesson here is that the RSI really is a super useful tool to predict what’s likely to happen, but it’s no crystal ball. It’s just one piece of the puzzle. It should be used in combination with a legion of other technical indicators, fundamental analysis, and a pinch of common sense. Don’t use the RSI on its own to determine when to invest or sell.
I never take anything as a given until I get the written confirmation. Personally, I like to see other confirming indicators behind the RSI’s message. For example, an advance above the 20-day Simple Moving Average (SMA) could offer confirmation of a new bullish trend. On the flip side, a drop below the 20-day SMA could signal a return to the bears.
Bitcoin and other cryptocurrencies in general seem to be making some incredible RSI waves lately. It’s yet another potent reminder that the market is not a static place. While overbought conditions can be sustained for much longer than you may expect, oversold conditions are known for creating quick and massive counter trend rallies. The real secret is simply staying focused, being aware, rolling with the tides when the winds change, and refusing to allow your heart to rule your head.
