Volatility refers to the measure of the range and speed of change in the prices of financial assets. Understanding this factor in the FX markets is critical, especially during economic turbulence. It helps know the risk related to the financial assets you choose. Donald Dorsey recognized the importance of knowing volatility thus developed the Relative Volatility Index (RVI) Indicator to help in technical analysis. (Play around with tradingview’s advanced charts for free)
The Relative Volatility Index (RVI) is a high-profile volatility indicator that helps identify the direction of volatility. It calculates the standard deviation of price change over a predefined look-back period. Although the RIV and the Relative Strength Index are similar, the RVI Indicator adds standard deviations according to the price direction rather than adding the price deviation amounts. This volatility indicator works best when used together with other trend or momentum tracking indicators to confirm trends.
Features of the Relative Value Index Indicator
- It is a confirmatory indicator thus used with other indicators
- The RVI Indicator uses standard deviations of prices
- Its values range from 0- 100
- It suggests you trade in a specific direction and avoids the opposite one
Calculating the Relative Volatility Index
The formula for the Relative Volatility Index calculation is:
RVI = (U/U+D) × 100
Whereby:
U is the average sum of the standard deviations for positive days or bullish candlesticks
D is the average sum of the standard deviations for negative days or bearish candlesticks
How to use the Relative Volatility Index Indicator?
The Relative Volatility Index Indicator is simple and highly significant in the technical analysis due to the information it gives the traders. It has a value range between 0 and 100, with the values close to zero indicating downside volatility while those close to 100 suggesting upside volatility. Therefore, the RVI values above 50 indicate a potential buying opportunity; thus, you should trade in the buy direction, while values below 50 suggest a potential selling opportunity meaning you should trade in the sell direction. (Try out indicators on Tradingview.com)
Another way to use the RVI Indicator is to check the potential entry signals. The RVI value suggests a potential buy opportunity when it goes above 60 and a potential entry for a short position (sell opportunity) when it moves below 40. Additionally, you can use the RVI as an exit signal if you are already in the trade. You can take it as a signal to close a long position when it goes below 40 and a signal to cover a short position when it moves above 60.
Since volatility drives prices, the RVI indicator can also help determine the market strength. Therefore, this high-profile volatility indicator can offer crucial insight into the financial markets.
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