What is RSI divergence and how it is useful in trading ?

RSI Divergence is a concept used by traders to spot potential reversals in the price direction of a stock or asset by comparing how the price moves with the **Relative Strength Index (RSI)**.

Let’s break it down in a simple, human-friendly way.

### What is RSI (Relative Strength Index)?

RSI is a tool that helps traders figure out if a stock is **overbought** or **oversold**. It’s a number that ranges from 0 to 100:
- **Above 70**: The stock is considered overbought (potentially too expensive or ready for a drop).
- **Below 30**: The stock is considered oversold (potentially too cheap or ready for a bounce).

The RSI helps you understand how strong or weak a stock’s price move is.

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### What is Divergence?

**Divergence** happens when the price of an asset and the RSI are not moving in the same direction. This could be a red flag (warning sign) or a signal that the price is about to change direction.

There are two main types of divergence to look for:

#### 1. Bullish Divergence (Potential Buy Signal)

This happens when the **price makes a lower low**, but the **RSI makes a higher low**. In simpler terms:
- The price is going down, but the RSI is showing signs of strength (it's going up).
- This tells you that even though the price is dropping, the selling pressure might be losing steam, suggesting a potential **reversal to the upside**.

**Example:**
- The stock price hits $50, goes down to $45 (lower low).
- The RSI moves from 20 to 25 (higher low).
- This difference (divergence) suggests that the downward trend might be ending, and a bounce up could happen soon.

#### 2. Bearish Divergence (Potential Sell Signal)

This happens when the **price makes a higher high**, but the **RSI makes a lower high**. In simple terms:
- The price keeps going up, but the RSI shows weakness (it’s going down).
- This suggests that even though the price is rising, the buying pressure is fading, and the market might reverse to the downside.

**Example:**
- The stock price hits $100, goes up to $105 (higher high).
- The RSI moves from 70 to 60 (lower high).
- This divergence indicates that the price might be overbought and could soon start dropping.

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### How is RSI Divergence Useful in Trading?

RSI Divergence helps traders by:
- **Spotting potential reversals**: If a price trend (either up or down) isn’t supported by the RSI, it can indicate that the trend is losing momentum. This could be a warning that a change in direction is coming.

- **Identifying overbought/oversold conditions**: Divergence can signal that the asset has gone too far in one direction. For example, a **bullish divergence** could tell you the stock has been oversold and might be ready to bounce back up, while a **bearish divergence** could suggest that the stock is overbought and might fall.

- **Timing entries and exits**: By using divergence, you can find good points to buy (during a bullish divergence) or sell (during a bearish divergence) before the trend changes.

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### In a Nutshell

RSI Divergence is like a signal that tells you when a stock or asset might be about to stop going in the same direction and start reversing. By spotting these signals early, traders can make smarter decisions about when to buy or sell.