Stock markets can be a tricky place with twists and turns that nobody can predict. This is especially true when you are a day trader. But what makes the stock market different from a lottery, where just luck is a factor, is research and analysis. The knowledge and homework you put behind your trading strategies is often the single factor that makes or brakes your stock market moves.
Here, using technical analysis is one way to ensure that you stay on top of your stock market game. Designed based on mathematics and statistics, technical indicators are helpful in understanding markets and predicting the same.
A relative vigor index (RVI) is one such leading indicator. Let us learn more about the relative vigor index and see how you can form strategies using the same.
What is the Relative Vigor Index (RVI)?
The relative vigor index indicator is a technical analysis that comes under the category of oscillators. Oscillators are tools that use the opening and closing price movement of stocks to analyze the same. Being a momentum indicator, the relative vigor index is also used to gauge the strength or weakness of a share’s price.
The tool was developed by Donald Dorsey in 1993 and was updated last in 1995. . A stochastic indicator is a tool that is similar to the relative vigor index. But unlike a stochastic indicator, the relative vigor index pays more attention to the closing price of the stock than the opening price.
What Does the Relative Vigor Index Tell You?
A relative vigor index works on the principle that a closing price that is higher than the opening price shows a bullish trend and vice-versa. Like other oscillators, the RVI value tends to swing between preset levels. It has a central line, and action on either side of it has different implications.
The main aim of a relative vigor index is to signal overbought and oversold conditions. An overbought condition is when a stock has high buying pressure, and there is a lot of buying activity. This has multiple implications. For instance, a stock could go down after a period of high buying pressure when a threshold is met.
On the contrary, an oversold condition shows high selling pressure. Similar to the above scenario, an oversold condition, too, could have different meanings according to the situation.
Calculating Relative Vigor Index
Calculating the relative vigor index is a chore compared to other oscillators. The relative vigor index is calculated using the following equation –
NUMERATOR = a+(2×b)+(2×c)+d/6
DENOMINATOR = e+(2×f)+(2×g)+h/6
Relative vigor index = SMA of NUMERATOR for N periods/SMA of DENOMINATOR for N periods
- a= Closing price − Opening price
- b=Close−Open One Bar Prior to a
- c=Close−Open One Bar Prior to b
- d=Close−Open One Bar Prior to c
- e=High−Low of Bar a
- f=High−Low of Bar b
- g=High−Low of Bar c
- h=High−Low of Bar d
- i=RVI Value One Bar Prior
- j=RVI Value One Bar Prior to i
- k=RVI Value One Bar Prior to j
While the above equation may seem intricate, understanding the flow of calculation may help.
Here, A period to analyze is chosen (N) first. Then, you need to find the opening, closing, and the highest price of the current bar. Then the same values for the lookback period before the current bar have to be identified. Then calculate the simple moving average (‘SMA’ in the above equation) for the numerator and denominator for the above period. Once that is done, the numerator value must be divided by the denominator value. Now, you can place the result in a signal line and plot a chart.
If this calculation sounds complicated for you, fret not; most trading charts have the option to show the relative vigor index with one single click. Even then, understanding the calculation can help you learn how it works.
Relative Vigor Index Graph
Now, let us understand how an RVI indicator line is plotted in a chart.
Take a look at the above picture. As you can see, there are two graphs visible here. The above one is the price graph of TCS on a particular day. Below that, you can see a graph with two oscillating lines and a central line; This is what an RVI graph would look like. You can easily access this by enabling the same in your chart. RVI graph is often analysed with the price graph, like in the above example, for best results.
The Signal Line and RVI Line
Let us take a closer look at the RVI indicator graph now. Refer to the picture below.
As said above, there are three lines visible here. The straight line in the middle is the central line. It is set at zero. The black line is the RVI line. It reacts quicker to stimulus. Finally, the red line is the signal line which reacts slowly. The RVI and signal line movements with respect to the central life denote trading signals. These can be used to identify and confirm trends to aid with day trading. Let us see how.
How do you use an RVI indicator? – Trading Strategies
Similar to other oscillator indicators, when the RVI line reaches the higher end of its preset levels, the stock is said to be overbought or under high buying pressure. On the other hand, the RVI line touching the bottom levels indicates an oversold condition. But there is much more to read from an RVI indicator, especially in a situation where the lines cross. Let us look at some relative vigor index trade signals.
Crossing of the RVI and signal line
The crossing of the RVI and signal line indicates opposite things on the opposite sides of the central line. Take a look at the graph below.
Here, pay attention to where the RVI line crosses the signal line, creating a local high. When this happens above the central line, it is indicative of an overbought condition. Different stocks can react differently to this situation, according to factors, including the economic conditions. Here, you can see that the stock went down on both occasions where the RVI line crosses the signal line.
You could employ several trading strategies here. For instance, lines crossing above the central line could indicate a trend reversal and a short position there could have been beneficial.
Now, let us see what happens when the two lines cross below the central line.
Take a look at the above picture. This graph depicts the same company’s price movements at a different time. Here, the RVI line crosses the signal line twice – once very close to the bottom and once not that low. But on both occasions, the trend reversed to bullish.
Here too, multiple trading strategies can be employed. For instance, contrary to the above situation, a long position might have turned beneficial. It was an excellent time to buy the stock as well.
Two lines crossing the central line
Let us now look at a situation where the two lines cut across the central line, which is set at zero.
As we have discussed, the two lines above the central line indicate an overbought condition, while below the line means the stock is oversold. Here, the two lines crossing the central line from below are a bullish trade signal. It means there is buying pressure and the stock price is set to increase. Take a look at the below picture.
The graph shows the price and RVI graphs of GHCL on a particular day. Take a closer look at the point where the signal and the RVI line cross the central line. Immediately following that, you can see the price going up.
You can use an appropriate trading strategy here with this data. For instance, you can enter a trade at the point where the two lines are crossed with the previous candle’s high as the stop-loss point.
Let us now examine a situation where the RVI and signal line crosses the central line from below. Refer to the picture below.
Here, when the lines crossed the central line from above, the RVI indicator showed a sell signal. In the price graph, you can see the price going down after the crossing point as well.
Here, taking a short position at the point of the cross is a simple RVI trading strategy. But these signals might not always be reliable. So make sure you cross-check with a trend confirming tool like relative strength index before making a move.
A divergence occurs when the price of a stock moves in a different direction from that of a technical indicator. This can be a signal for an existing trend reversal. An RVI indicator can show two types of divergence – a bullish divergence and a bearish divergence.
A bullish divergence is formed when the price hits another low below the previous one while the RVI indicator low is higher than the previous one. This indicates that the selling pressure is weak and signals a trend reversal. Refer to the below picture.
Here is what a bullish divergence would look like in a graph. As you can see here, when the relative vigor indicator forms such a pattern, the price tends to go up, making it ideal for a buy or long position.
Bearish divergence is the opposite of a bullish divergence. Take a look at the below graph of price and relative vigor indicator.
Here, the price forms another high above the previous high, and at the same time, the RVI line’s high is lower than the previous high. This shows a bearish trend, making it an ideal time for a short position.
False Signals in RVI Indicator
RVI indicator can sometimes show false signals. Take a look at the below graphs.
Here, you can see the price and RVI indicator graphs of Nippon India ETF Gold BeES on a particular day. Here you can see RVI and signal line crossing the central line from above and below. On both occasions, the price graph didn’t agree with the trade signals. Hence, it is always wise to club the RVI indicator and strategies with other indicators.
Relative Vigor Index with Other Indicators
Using the RVI indicator with other similar indicators could help you gain maximum profits out of your investment. RVI indicator, like any other technical indicator, could show false signals. Using other indicators can help you from losing money rapidly on such occasions. Take a look at the below price graph.
In the above picture, the RVI indicator is used along with the stochastic indicator. Here, the oversold conditions are confirmed by a second indicator, reducing the risk of your move. Other indicators, like relative strength index or a MACD, can also be used for best results.
RVI indicator can be highly beneficial when used in day trading when used with caution. But make sure you have a clearer idea about the economic conditions as well. This is because, during an extraordinarily bearish or bearish condition, an RVI indicator could show false signals. What helps here is proper market knowledge and sound investment advice.