Learn Lesson 3 of 6 · 8 min read
RSI, MACD, Bollinger Bands and ATR
Four classic studies in plain English: what each number means, its usual settings, and which one to learn first.
Two families of tools
Almost every classic study answers one of two questions. Momentum tools ask "how strong has the push been?" Volatility tools ask "how big are the swings right now?" Mixing two of the same family adds little; one of each covers a lot.
RSI: Relative Strength Index
RSI compares the size of recent up closes with recent down closes and squeezes the result into a 0 to 100 scale. The usual setting is 14 bars.
RSI = 100 − 100 / (1 + average gain / average loss)
- Above 70 is called overbought and below 30 oversold. In a strong trend, RSI can stay above 70 for a long time while price keeps climbing. Overbought is a description, not a sell signal.
- Divergence: price makes a new high but RSI makes a lower high. The push is weakening. It can warn early, and it can keep warning while the trend continues.
- Some traders use the 50 line instead: above 50 favors longs, below favors shorts.
MACD: Moving Average Convergence Divergence
MACD is built entirely from EMAs. The standard settings are 12, 26 and 9:
MACD line = EMA(12) − EMA(26)
Signal line = EMA(9) of the MACD line
Histogram = MACD line − signal line
The MACD line crossing above zero means the 12 EMA has crossed above the 26 EMA. The histogram shrinking means the gap between them is closing, often before the cross itself. Because MACD is two averages stacked together, it lags more than either average alone. It is better at confirming a trend than at catching the turn.
Bollinger Bands
A 20-bar SMA with a band 2 standard deviations above and below it. When price swings widely the bands spread apart; when it goes quiet they pinch together.
- A squeeze (very narrow bands) says the market is quiet. Quiet periods tend to end with a bigger move, but the bands don't say which direction.
- In a range, tags of the outer band often snap back toward the middle. In a trend, price can "walk" along one band for many bars.
ATR: Average True Range
ATR is the average size of a bar, including gaps. For each bar, the true range is the largest of three distances:
True range = largest of (high − low, |high − previous close|, |low − previous close|)
ATR(14) = average true range of the last 14 bars
ATR has no direction and no overbought level. It simply says how far price normally travels on this chart right now. That makes it the most practical of the four:
- A stop 1.5 to 2 ATR away sits outside ordinary noise. A stop of a fixed 10 points might be wide on a calm day and far too tight after a news release.
- Targets set in ATR steps (1 ATR, 2 ATR...) stretch on fast days and shrink on slow ones.
- A trailing stop held 2 or 3 ATR behind the best price gives a trend room to breathe.
Stochastics, briefly
Stochastics show where the close sits inside the recent high-to-low range, from 0 (at the low) to 100 (at the high). It reads much like RSI but moves faster and gives more signals, both good and bad.
Choosing your set
| If you want to know... | Use | Usual setting |
|---|---|---|
| How big a normal move is today | ATR | 14 |
| Whether the push is fading | RSI divergence | 14 |
| Whether a trend is gaining or losing steam | MACD histogram | 12, 26, 9 |
| Whether the market is unusually quiet | Bollinger Band width | 20, 2 |
Try it in NinjaTrader
- Add ATR (period 14) to a 1-minute chart in its own panel.
- Note its value at 9:35 ET and again at 12:30 ET.
- Measure what a 2 x ATR stop would have been at each time. That gap is why fixed-point stops feel wrong on some days.
Educational content only, not trading advice. Indicators describe what price has already done; none of them predicts what it will do next. Practice in Sim or Playback before trading live.