DEFINITION of True Strength Index - TSI
The true strength index is a technical momentum indicator that helps traders identify short-term price swings while trading in the direction of the trend. The indicator is useful for determining overbought and oversold conditions of a security by incorporating the short-term momentum of the market with the lagging benefits of moving averages.
Typically, a 25-day exponential moving average (EMA) is applied to the difference between two share prices, and then a 13-day EMA is applied to the result, making the indicator more sensitive to prevailing market conditions. After the data is smoothed, the indicator gives values that fall within a range between +100 and -100, or from +1 to -1.
Example of the True Strength Index
BREAKING DOWN True Strength Index - TSI
The true strength index also has a signal line, which is usually a 7-day EMA, applied to help identify reversals. Values of -25 and +25 can be used to determine when a security is overbought or oversold. The true strength indicator is a variation of the relative strength index and is calculated automatically by most charting software applications. Like all indicators, other aspects of technical analysis should be used in conjunction with the true strength index to improve the quality of its signals.
Trading with the True Strength Index
Overbought/Oversold: Swing traders can take advantage of the indicator’s overbought and oversold levels to enter and exit trades. For example, a trader may open long position when the price of a security approaches an uptrend line, and the true strength index is below -25. The trader may decide to close the position when the indicator moves back above +25. (For more, see: What are the Best Indicators to Identify Overbought and Oversold Conditions?)
Center Line Crossovers: The center line crossover is one of the most basic signals the true strength indicator generates. Momentum is positive when the indicator is above zero and negative when it is below zero. Instead of using the true strength indicator to generate trading signals, many traders use it for a directional bias. For example, a trader may decide only to enter a long position if the indicator is above its center line. Conversely, the trader would be bearish and only consider short positions if the indicator's value is below zero.
Indicator Trend Lines: Traders can use support and resistance levels created by the true strength index to identify breakouts and breakdowns. For instance, if the indicator breaks above a trendline, the breakout may precede a significant move higher in the security the indicator is measuring.