Ultimate Algorithmic Trading System

RSI Divergence
Market Continuing to Trend Up
While RSI Is Initially Over Bought
and Then Trends Down
FIGURE 2.6
Example of RSI divergence.
and oversold levels, divergences are more likely to give false signals in the context
of a strong trend.
A TOP failure swing occurs when the RSI forms a pivot high in overbought
territory and then pulls back and forms a pivot low and then another pivot high forms
that is less than the original. A sell signal is triggered at the intervening RSI pivot
low level. A BOTTOM failure is the inversion of the TOP; RSI forms a pivot low
below the oversold value and then moves up and forms a pivot high and then a pivot
low greater than the original pivot low. Figure 2.6 illustrates these failure swings.
According to Wilder, trading the failure swings might be more profitable than
simply trading the RSI overbought/oversold model. Let’s see if this is the case by
testing this idea. The RSI failure swing algorithm is going to be more complicated
than our last RSI algorithm, but with the use of an FSM it is readily doable. Let’s
attack it from the short side only to start (Box 2.3).
Box 2.3 Welles Wilders RSI Failure Swing System Description
SellShort Setup: The 14-day RSI rises above 70, then pulls back below 70 and
forms a low pivot. The RSI then rallies but does not take out the original pivot
high level. A SellShort signal is generated once the RSI retraces to the pivot low
level that was established between the two prior consecutive pivot highs. (Note:
MOC stands for market on close.)
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STOCHASTICS AND AVERAGES AND RSI! OH, MY!
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