RSI Divergence: Day Trading Strategy for Forex & Stocks

Dive deep into the world of RSI divergence, a promising strategy for day traders. By blending RSI with EMA and Stochastics, discover a roadmap to potential high-win trades in both Forex and stocks.

Simple RSI Divergence Strategy for Daytrading Forex & Stocks

Divergence strategies have long been hailed for their accuracy and potential to spot trend continuations and reversals. One of the most popular indicators for identifying divergences is the Relative Strength Index (RSI). This article will delve deep into a simple RSI divergence strategy that holds a promise for high win rates in day trading.

Understanding Divergence

A divergence occurs when the price action on a chart and an indicator move in opposite directions. In a standard setup, if prices move in one direction, the indicator generally follows. However, there are instances when the indicator moves counter to the price. This discrepancy is termed as a divergence.

Divergences can be broadly categorized into two:

1. Regular Divergence: Predicts a potential trend reversal.
2. Hidden Divergence: Signals a possible continuation of an existing trend.

For the purpose of this strategy, our main focus will be on hidden divergences.

Spotting Hidden Divergences

Hidden divergences can be bullish or bearish:

• Bullish Hidden Divergence: Occurs when prices form higher lows, but the RSI forms lower lows.
• Bearish Hidden Divergence: Occurs when prices form lower highs, but the RSI forms higher highs.

Spotting these divergences in real-time can be challenging. A handy trick is to switch your chart view to a line chart. The 200 EMA (Exponential Moving Average) is used to determine the type of divergence to look for. If the price is above the 200 EMA, focus on bullish hidden divergences and vice versa.

Integrating Other Indicators

While divergences are powerful, trading solely based on them can be risky. This is where other indicators, like the Stochastics and the 200 EMA, come into play. Here’s how the strategy unfolds:

1. Identify the position of the price concerning the 200 EMA.
2. Spot the divergence.
3. Wait for Stochastics to further confirm the signal:

• For bullish setups: Stochastics should cross over upwards.
• For bearish setups: Stochastics should cross over downwards.

1. Take a position based on the confirmation.

Exit Strategy

The exit strategy is crucial to manage risks:

• For buy positions, place a stop loss below the nearest swing low and set a profit target 1.5 times the stop loss.
• For sell positions, set the stop loss above the nearest swing high, with a profit target set at 1.5 times the stop loss.

In Action

For bullish trades, when the price is above the 200 EMA, spot the bullish hidden divergence. Wait for the Stochastics to cross over upwards and take a buy position. The opposite applies for bearish trades.

Conclusion

This RSI divergence strategy is straightforward yet powerful. While it offers a systematic approach, always ensure you’re considering the broader market context and managing your risks effectively. Remember, no strategy guarantees success every time, but with discipline and practice, you can achieve consistent returns. Happy trading!

References:

1. Investopedia’s Guide on RSI
2. Day Trading with Divergences on TradingView