by Johan Kriek (jkriek@fxinstructor.com)

Have you ever been in a situation where your overbought/oversold indicator stays in overbought territory but the market keeps on moving higher?

I’ve seen it so many times where price is trending higher and people are calling tops due to the fact that some indicator is overbought. I’ll show you how to see when an indicator is INDEED oversold/overbought. Look at the chart below:

The chart above is a normal, straight-forward 15minute chart on the EUR/USD. For this educational purpose,  I will add a RSI with periods 9:

On the last chart you can see all the overbought and oversold conditions of this RSI

Now, if you have a closer look, you can see that the RSI REMAINED in overbough territory for a considerable amount of time and while the market was moving before coming back to oversold territory

If you decided to wait before trading EUR long because the RSI was overbought, you would have lost out on many pips :(

So how do we overcome this barrier? How do we know when it is truly overbought?

Look at the chart below:

I have identified a trend, a BULL trend

For as long as this bull trend remains intact (meaning price trends above the trendline support) the bullish bias will remain intact, right? So why don’t we have a look at the RSI from a BULL trend perspective as well?

Conclusion:

Indicators indicate. They are only effective when used in conjunction with some kind on trend analysis. If the trend is bullish, then the overbought signals are misleading but the oversold signals in this bull trend are just great!

So there ya go. I only look at my indicators from a probability study perspective. If the 60minute trend is bullish, I will regard oversold conditions very highly while oversold conditions will be deemed insignificant and misleading

Of course the opposite will be applicable to a bear trend

If you have any questions, please email me or come and ask me in the Live Trading Room here at FXInstructor

Happy pipdancing!

Johan Kriek