Understanding the True Strength Index
William Blau created an indicator known as the True Strength Index (TSI) in the early 1990s. A momentum-based indicator, it is designed to display both trend and over-bought/over-sold circumstances.
The Formula for the True Strength Index
The TSI is initially determined by subtracting the closing price of the current bar from the closing price of the preceding bar. Momentum is the term used to describe this disparity. Next, consider the momentum calculation’s exponential average at 25 bars. To the initial exponential average, apply a second 13-bar exponential average. Because you are taking two averages of the original computation, this is known as double smoothing. The absolute value of momentum is subjected to a second double-smoothingN computation using the same 25 and 13 exponential averages. The second double smooth of the absolute value of momentum is divided by the first double smooth of momentum. The potential range of +100 to -100 is then obtained by multiplying the result by 100. This is the TSI line, and the signal line is obtained by taking the TSI’s final 7-period exponential average.
The indicator is displayed on a chart with the TSI and signal line in the graphic above. To help recognize when it is positive or negative, the indicator plots a zero line as well.
How to Interpret the TSI
Divergence between the TSI and price is something used often. The price reached a higher high, as you can see by looking at the blue arrow on the chart below. However, the TSI did not, and the red arrow indicates the concurrently created lower high. When one thing moves in one direction while the other proceeds in the other direction, this is known as divergence. The setting for this divergence shows that although the price was rising, it was doing so with less vigor.
The signal line’s intersection, which was indicated with the yellow arrow, is where the entrance occurs. To show you where you could have sold the market, the same bar was highlighted on the price data. You could have been able to grab the market following its great sell-off.
The indication in this chart is fractal, even though it is based on 15 minutes. This implies that it may be used for any period of time with the same level of interpretational expectation.
Examine the price and TSI divergence on the above wheat daily chart. The market fell down, suggesting a possible sell signal.
As with any signal, it is always preferable to have confirmation from additional indicators. Indicators that gauge overbought/oversold levels might provide confirmations on intraday charts.
