Among the many oscillator suite of indicators, the Relative Vigor Index, or RVI for short, is relatively less popular than its famous cousins such as the Stochastics or even the Relative Strength Index. A quick search reveals that most trading systems make use of the above two and there are hardly any popular trading systems that makes use of the RVI oscillator. However, that being said, the Relative Vigor Index makes for a fine indicator which when applied correctly can prove to be a valuable took for technical analysis.
The RVI Indicator was developed by John Ehlers, who is widely known for his discovery of MESA (Maximum Entropy Spectrum Analysis), (Center of Gravity) COG indicator and other such unique indicators. Most of his work, and the resulting indicators were based off Ehler’s many books that were published. An electrical engineer by profession, one can see the relation between other fields such as seismography that Ehler’s brought into the field of technical analysis.
Introduction to Relative Vigor Index
The RVI indicator is an oscillator that moves between a fixed minimum and maximum (usually between a + and – values). Unlike other indicators, it does not represent overbought and oversold conditions, but measures the vigor or energy in the prices and makes use of the Vigor Line and the Signal line. Obvious from this, the RVI indicator measures momentum or energy in the prices. As we know, momentum precedes price, the RVI indicator visually depicts turning points in the markets (with a fair amount of accuracy).
The RVI’s calculation is very simple. The basic concept being that when markets are rising, prices tend to close higher than their open prices and in a bear market, prices tend to close lower than their open prices. In other words, higher closes are seen in a bull market while lower closing prices depict a bear market.
As mentioned above, the RVI indicator consists of two lines.
- The RVI line is calculated as (Close-Open)/(High-Low) for a period (that is defined by the user).
- The signal line ‘N’ is a symmeterical moving average applied to the RVI line for the last four values.
The above chart shows the Relative Vigor Index, applied to a EURUSD daily charts. As we can see, the RVI plots its data in a very smooth fashion and reverses at key turning points. If you observe closely, the RVI indicator reverses first after which price tends to reverse. This is because momentum/energy precedes prices.
Trading with the RVI Oscillator
By now, traders should be getting a fair idea on how/when the RVI indicator could add value. One of the examples of using the RVI Indicator is in conjunction with a moving average trading strategy. Given that moving averages put us in a trend, the RVI oscillator can be used to pick pull backs in a bull markets to enter a trade. Besides using the RVI with a moving average, divergence trading is also another way to trade with the RVI Oscillator. Divergences are particularly interesting to trade with RVI due to the nature of the signals that it plots. Unlike other oscillators, divergence trading with RVI is a lot more easier.
In the above example, we see a case of a classic bearish divergence. Prices quickly dropped after making a higher high. A short entry at that point would be an ideal trade with a low probability of risk. Another way to trade the above divergence would be to go long on the break of the trend line plotted on the RVI indicator, which could be yet another low risk high reward strategy.
Let’s see how a trading strategy can be built using just a moving average cross over and the RVI Indicator.
In the above example, we make use of two moving averages with the RVI indicator on the daily chart. As explained in the chart, this very simple and basic trading system gives a low risk, high reward trade entry. We simply focus on the RVI to give an advanced signal, wait for the moving averages to crossover in the direction of the signal given by the RVI and finally wait for price to close below the moving averages to enter a short trade. The trade was then kept open until the RVI indicated again a bullish signal. We then wait for price to close or open higher than the moving average. The above trade example gave a total of 344 Pips with an initial risk of 160 Pips.
RVI Indicator – Conclusion
The RVI indicator one of the robust and smooth oscillator which when used along with the right indicators can provide a sense of direction to the trader. As we have demonstrated in the above article, by making use of some of the most basic and simple trading concepts, the RVI indicator can be converted to a powerful trading indicator in the field of technical analysis.