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Why the Relative Strength Line/Rating Holds a Big Clue?

“Relative price performance is a good way to tell which of the five or six stocks you own is your true leader. If you’re going to do any selling, it’s normally correct to weed the flower patch by selling your worst-performing stocks first.” - William J. O’Neil

Have you ever noticed how the price performance of a good stock moves in tandem with the market? Often stocks that drive the market are “Leaders” and tend to show superior price performance. This can be traced in the Relative Strength (RS) line of a stock’s chart. The Relative Strength we are looking at here is not to be confused with another popular technical analysis tool, Relative Strength Index (RSI), which is used to measure the momentum.

The RS of a stock measures its relative price performance over the last 12 months with respect to the rest of the stocks in the market. An RS Rating is also provided for a stock based on a percentile system. A stock with an RS Rating of 96 indicates that it outperforms 96% of the stocks in the market with respect to price, or alternatively - it is a stock that is in the top 4% (100-96%) in terms of price performance. The higher the rating, the better is the price-performance.

What to look for in an RS line or an RS Rating?

  • When a stock is breaking out of its resistance, a rising RS Line is a healthy indicator, suggesting that its price performance is trending higher.
  • A breakout that happens on an RS line, which is trending higher, coupled with the RS Rating registering a new high, is something that every technical analyst wishes for. An RS line hitting a new high means the stock is leading the market like never before - a very bullish sign.
  • During instances when the market direction is weak and is in a correction, a rising RS line indicates superior price performance as the stock is bucking the market trend or resisting it.

Example: As indicated in the chart, Dixon Technologies had an upward trending RS line, and the RS Rating was near its all-time high when it broke out from a cup-with-handle base in June. 

The stock also had high blue dot count (Blue Dot means Relative Strength line hits 52 weeks high. To learn more about MarketSmith India’s Blue Dot feature, visit www.marketsmithindia.com.

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