Trade on Reversals- RSI and Bollinger Bands explores two widely used technical indicators for spotting overbought and oversold conditions in the FX market.
The Relative Strength Index (RSI), introduced by J. Welles Wilder in 1978, gauges momentum using a 14-day period, with thresholds at 70 (overbought) and 30 (oversold), calculated via simple or smoothed average gain/loss methods.
Bollinger Bands, developed by John Bollinger, employ a 20-day SMA and two standard deviation bands to signal volatility and potential reversals.
This guide illustrates their application with charts, like USD/EUR for RSI and USD/AUD for Bollinger Bands, highlighting reversal strategies in low-volatility, ranging markets. While not standalone signals, these tools aid in setting support/resistance levels during stable conditions, though their efficacy wanes in volatile markets. Ideal for cautious traders, it emphasizes complementary use with macro analysis.
Excerpts
Many researchers in the academic world have shown that momentum portfolios, which consist in buying the best-performing assets and selling the worstperforming assets, can be followed by reversals or negative returns immediately
after the observation period (usually 12 months for equities). In the FX market,
two popular technical indicators that are closely watch by market participants
to observe a potential overbought or oversold currency are the Relative Strength
Index (RSI) and the Bollinger Bands.