The Relative Vigor Index is an oscillatorthat evaluates the strength behind a price move.
It attempts to provide a guide to the tendencyof the market, to persist in the same direction of that move – or for the price move tobreak down.
Relative Vigor Index is based on the principlethat in a rising market, we expect the closing price to be on balance and in general, higherthan the opening price.
Similarly, in a falling market, we expectthe closing price to be, more often than not, lower than the opening price.
In other words, at its core, this indicatortries to measure whether a market is bullish or bearish.
It does this by making a comparison betweenan instrument's closing price and its opening.
The RVI formula is looking at the differencebetween the closing price and the opening price – and then normalizing it to the tradingrange over the period.
Then the values of RVI are leveled by addinga 'Simple Moving Average' (SMA).
In fact the calculation method for the RelativeVigor indicator is very similar to that used for the Stochastic Oscillator, another popularindicator.
The relative vigor index (RVI) tries to anticipatechanges in market trends.
Since the relative vigor index is an oscillator, it bounces above and below zero – producing both positive and negative values.
So, what are the settings of this indicator.
The Relative Vigor Index indicator is madeup of two lines, the green line is a standard moving average of the RVI indicator.
The default value of the green line is 10– periods, but you ca change it in multiple ways to suit your needs.
Most of the traders change the default valueto some of the common 7, 14 or 21 periods.
The higher the number of periods you choosethere’s a less chance of false signals but the down side of using higher periods is thatyou get less amount of trades in the market, and possible late entries.
The red line is a “trigger line.
” It is a 4-period volume-weighted moving average, and it provides trade signals when it crosses above or below the green line.
The time frame for your chart when using RVIis an important choice.
This indicator was originally devised, likeso many other popular trading indicators, to be used in conjunction with end-of-dayprice data.
But there is no reason that the indicatorcannot be used for other time frames also, for day trading or even scalping.
How to read Relative Vigor IndexThe key factor of the RVI indicator is that prices tend to close higher than the openingprice in an upward trend and close lower than the opening price in a downward trend.
Higher values for the RVI point out an increasein the strength of the trend, while lower value indicates a weakening of strength.
• Generally the higher the indicator climbs, the stronger is the current relative price increase;• the lower the indicator falls, the stronger is the current relative price drop.
Together with its trigger line, the red 4-periodmoving average, the indicator may help to identify changes in prevailing price developments:• Crossing the signal line from above, the RVI signals a possible sell opportunity;• Crossing the signal line from below, the RVI signals a possible buy opportunity.
Notice in this example how the green RVI linecrossing under the red signal line coincides with bearish stretches in the price.
Also notice how the upward crosses signalperiods where the market becomes either bullish, or stops being bearish.
As the oscillator naturally moves in a wavepattern, we can attempt to add a rule to restrict trades to more favorable conditions and limita part of false signals.
This would mean only acting on a crossoversignal to buy if the RVI is above 0.
Similarly, we would only act on a crossoversignal to sell when it is below 0.
From my experience with this indicator, thecrossover signals are not quite reliable.
Now let’s talk about the danger of usingRVI searching for overbought and oversold signals.
Overbought and oversold topic is one of biggestproblems and faults in trading.
The RVI indicator does not show oversold oroverbought prices.
It shows momentum.
Generally, traders would say that a high RVIvalue means that the price is overbought and when the RVI is below a certain number, theprice is considered oversold.
And what traders then mean is that an oversoldmarket has a high chance of going up and vice versa.
This is wrong and very dangerous! As we see in this example, when the RVI reachesextreme levels it means that the trend is strong and not that it is overbought and likelyto reverse.
A high RVI means that the price is able toclose near the top and it keeps pushing higher.
A trend where the RVI stays high for a longtime signals that momentum is high and not that you should get ready to short the market.
This chart shows the behavior of the RVI withina long uptrend and a downtrend.
In both cases, the indicator entered “overbought”and “oversold” areas and stayed there for quite some time, while the trends kepton going.
Again, the belief that the RVI shows oversold/overboughtis wrong and you will quickly run into problems if and when you trade this way.
That’s why a better method of using theRVI is by paying attention to its zero level.
You ignore overbought and oversold signals, and concentrate on crossovers around its midline.
Crossing it from below signals buying momentum, while crossing it from above signals to sell momentum.
This signal is also not very reliable on itsown, but alongside additional instruments like other indicators or Price Action patterns, it offers better signals than overbought and oversold ones.
I like to combine RVI with pivot points.
Pivot Points represent levels that are usedby floor traders to determine directional movement and potential support/resistancelevels.
They became popular once traders on the floorexchanges began to use them.
Pivots Points are an accurate indicator, becausemost market participants are watching and trading these key levels.
Their big advantage is the fact that theyare based purely on price.
I like to add the central pivot point andtrade price rejections.
Here’s how I would trade with RVI and thecentral pivot point.
if the price is above the Pivot, I consideredthe outlook as being bullish if the price is below the Pivot, the outlookis bearish.
When the RVI is above 0, we have increasingbuying power And when the RVI is below 0, we have a sellingmomentum So the rules are simple.
We want price to be traded above the centralpivot point, the RVI above 0 and we want to see a rejection of that pivot level.
This means that price must touch the pivotbut isn’t able to go through.
For a short opportunity, we want the pricetrade below the central pivot point, the RVI below 0 and of course we want a rejectionof the central pivot point.
Here are a few example, to understand betterhow to take signals using the RVI and the central pivot point.
Another powerful signal offered by the RVIis the divergence.
Because the RVI anticipates higher closesin an uptrend and lower closes in a downtrend, a divergence can signal early changes in thedirection of the trend.
If you watched other videos on my channel, you probably know that I’m a big fan of divergences, as they can be powerful leadingsignals.
In this example, you can see the RVI divergenceat work.
First, in a downtrend, you can see how priceposts a fresh low, but the RVI has signaled a higher low in this case (anticipating achange of direction in price).
This is later followed by a gradual move inprice to the upside.
Here, we notice a hidden bullish divergence, which signals that prices will continue to the upside.
Following the break of the resistance levelseen by this horizontal line, the price then establishes the uptrend.
The same setup for a bearish divergence.
A bearish divergence appears here during anuptrend when the price is making higher highs (HH) but the RVI indicator indicates a lowerhigh (LH).
That’s a strong indication of market exhaustionand a possible sign of market reversal, or at least a short-term correction.
Regarding its limitations, the Relative VigorIndex Indicator usually responds to market changes slightly later than the actual movetakes place.
And if you use higher periods, then it takeseven more time to offer a signal.
The major problem with the RVI is it generatesfalse signals in range-bound markets.
So make sure you don’t rely exclusivelyon the RVI and use it for confirmation, rather as the main signal for your setup.
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Until next time.