Michael Sincere

Michael Sincere's Long-Term Trader Archives | Email alerts

Sept. 25, 2021, 10:38 a.m. EDT

These stock trading signs can tell you when the market is overbought or oversold

Watchlist Relevance

Want to see how this story relates to your watchlist?

Just add items to create a watchlist now:

  • X
    S&P 500 Index (SPX)

or Cancel Already have a watchlist? Log In

By Michael Sincere

MACD (moving average convergence divergence) and RSI (relative strength indicator) rank among the key stock market indicators that traders use consistently in their analysis. 

Now the weekly RSI signal for the S&P 500 /zigman2/quotes/210599714/realtime SPX -0.97% is showing less-overbought conditions. After rising above 70 early last week, which was an extremely overbought signal, the weekly RSI is at 56.66 — slightly overbought, but not at the extreme levels of two weeks ago. 

When RSI climbed as high as 73 a few weeks ago, it was a huge red flag. Now that RSI is nearer to 50 (i.e., neutral), the S&P 500 could move in either direction. If the index continues to drop this week and RSI falls to near 30, that would signal an extremely oversold market and also a potential buying opportunity. 

Weekly MACD signals (for S&P 500)

The weekly MACD line has remained above the zero line, a bullish signal. After Monday’s slide, MACD has moved firmly below its nine-day signal line, a bearish development that reflects the downward shift in momentum. Because MACD is a lagging indicator, it can’t tell us the future, but it does show that in the short term, this bull market is struggling. 

Weekly 20-day moving averages (for S&P 500)

Although the 20-day moving average is significant mostly to short-term traders, it is a red flag that the S&P 500 dropped below its 20-day moving average. With the market at a crossroads, savvy traders are on the sidelines with a wait-and-see attitude. No one can predict whether the market will bounce back, or continue to fall. 

How RSI works

RSI tells when an index or a stock is overbought or oversold. Like most “bounded” oscillators, it has a reading from 0.0 to 100.0 on the chart.

The purpose of RSI is to let you know if a market or stock is overbought or oversold and may reverse. It doesn’t mean that the security will reverse with 100% certainty, but it does indicate it’s in the danger zone. 

How can you identify when a market or stock is overbought? Look at RSI on a weekly (or daily) stock chart. If RSI is 70 or higher, the security is overbought. If RSI falls to 30 or below, it is oversold. It’s really that simple.

When RSI rises to 70 and above

  1. RSI must be 70 or higher and remain above that level to generate an overbought signal. This is a clue that SPX (or another index or stock) is overbought. Hint: Sometimes indexes or stocks will reverse before reaching 70. 

  2. As every technician knows, just because a stock or index is overbought doesn’t mean it will reverse immediately. Securities can remain overbought for long time periods before reversing. 

When RSI falls to 30 and below

  1. When RSI on the S&P 500 (or an individual stock) falls to 30 or below, and remains under that threshold, that is an oversold signal. It doesn’t mean that SPX will reverse to the upside immediately, but the possibility increases. 

How MACD works

MACD, introduced in the late 1970s, is a trend-following momentum indicator.  It helps to determine when a trend, and its associated momentum (i.e., directional speed and duration) has ended or begun, or might reverse direction. 

-44.35 -0.97%
Volume: 2.48B
Jan. 19, 2022 4:58p
1 2
This Story has 0 Comments
Be the first to comment
More News In

Story Conversation

Commenting FAQs »

Partner Center

Link to MarketWatch's Slice.