What is Relative Strength?

Relative Strength (RS) is a comparison of the performance of one stock relative to another or, more commonly, to a benchmark index such as the S&P500 or NASDAQ Composite. The underlying idea of RS is that stocks that are experiencing high demand and are being bought up by major investors or institutions will exhibit stronger price movements relative to the market as a whole, particularly evident during periods when the market is stable or declining.

During times when the market is generally weak, institutional investors often take the opportunity to build positions in their top investment picks. This strategic buying, or accumulation, can leave behind subtle indications of interest, despite the stock’s price possibly trending downwards.

Conversely, a stock that has no demand will have poor price performance and underperform compared to the rest of the market. It has weak relative strength and the RS line will magnify its weakness.

The Relative Strength Line serves as a straightforward visual tool for traders and investors, allowing them to pinpoint the leading stocks by adding an easily interpretable indicator to their charts. This line functions much like the Relative Strength Rating, which on the other hand displays the number of the stocks ranking vs all the other stocks in the benchmarked index.

Visualizing the Relative Strength Line

Similar to how one might apply technical analysis to study price movements and volume on a stock chart, Relative Strength can also be graphically depicted. It’s typically shown as a simple line on the chart.

The Relative Strength Line shows how a stock is performing over a certain time period compared to the benchmark index, usually the S&P500

Relative Strength Line Calculation

The Relative Strength line is calculated by dividing the stock price by the price of the index it is being compared to.

Relative Strength Value = (Price of Stock/Price of Benchmark)

This calculation yields a ratio, which, on its own, isn’t particularly informative. However, the direction or trend of this ratio over time holds significant value.

By charting these ratios over a set period, typically using daily or weekly data as a straightforward visual line, one can easily determine the underlying strength of the stock price’s trend.

The Significance Of The Relative Strength Line In Stock Trading

Almost all indicators are some derivative of price and volume, but some of the most popular indicators like the MACD and Bollinger Bands are lagging indicators, as their calculations are trailing the price action.

Relative Strength however is a leading indicator, meaning it shows us ahead of time what the price is likely to do. If we pay attention to the RS line it will give us early clues as to the potential price performance, up or down, of a stock.

The direction in which the RS line moves is crucial. Small fluctuations in the line are expected as prices vary, but the overall trend should be ascending.

Identifying Strong Stocks Using Deepvue’s Relative Strength Line

Let’s take a look at how you can use Deepvue’s Relative Strength line to identify strong stocks.

From February to March 2020, while the S&P 500 dropped 35%, DOCU’s RS line was rising even as its price remained flat or slightly dipped. Pink dots on the RS line showed that it was making new highs before the price did, signaling institutional buying. This indicated that DOCU was set to outperform once the market rebounded. In the following months, DOCU’s price shot up 350%, and the RS line kept confirming the stock’s strength.

Now let’s fast forward to late 2020. Although DOCU’s price continued hitting new highs from October to February, the RS line showed a different story. It started to trend sideways and downward, hinting at underperformance. This divergence was an early warning of weakening demand. DOCU eventually dropped 30%, confirming the RS line’s warning.

Finally, from July to September 2021, DOCU’s RS line dropped sharply below its 21-day moving average, signaling a trend shift. This preceded a massive 85% price drop. Traders who paid attention to the RS line could’ve avoided this significant drawdown.

Understanding the Relative Strength Phase

The Relative Strength (RS) Phase is a critical concept for traders seeking to identify leading stocks that outperform the market. It represents a period when a stock consistently shows strength and is a key indicator of institutional accumulation.

When a stock is in an RS phase, its RS line remains above the 21-day exponential moving average, even during market corrections. Stocks with RS lines above their 21-day EMA, while indices dip below theirs, show clear RS characteristics.

Stocks that exhibit RS during corrections often lead the market in the next rally. Trading stocks in an RS phase improves the likelihood of success, as these stocks tend to gain momentum while under heavy accumulation.

Amazon’s RS line hit new highs even as the market corrected, making it an early leader in the subsequent rally. The RS phase began when the RS line moved, and stayed, above its 21-day exponential moving average. Note how even though the stock declined in price, the RS line continued to make new highs.

Unique features of Deepvue’s Relative Strength Line

Deepvue’s Relative Strength line has all the unique features you need in this tool to transform your trading and investing strategy.

Compare To Any Index, ETF, or Stock

By default, the Deepvue Relative Strength Line is set to compare a stock to the S&P500 ETF SPY. However, it is fully customizable and can be changed to another index, such as the NASDAQ 100 ETF QQQ, or any other stock or ETF to see if a stock is outperforming similar stocks in the same industry group.

Moving Averages

The Deepvue Relative Strength Line features two customizable Moving Averages. You can select any length of moving average you want and can also choose between Simple Moving Average and Exponential Moving Average. The default setting is the 21-day Simple Moving Average and 50-day simple moving average.

Crossover Indicator

When the RS line crosses over the moving average an indicator icon will be visible along the bottom to give a quick visual reference that the trend of the RS line might be changing.

Visual Cues for Highs and Outperformance

A green dot will appear on the RS line so you can easily tell when the RS line is making a new high. Similarly, when the RS line makes a new high before price, a pink dot will show on the line giving you a visual clue your stock is outperforming the overall market.

• Green Dot = RS New Highs
• Pink Dot = RS New Highs Before Price

Fully Customizable Chart Options

The Deepvue Relative Strength Line indicator is completely customizable. The line can be plotted as a simple line or candlesticks. Choose from a wide variety of colors, shades, icons, and line thicknesses to make the indicator uniquely yours and match your preferred color scheme. You can easily toggle on/off features that are less relevant to you.

Screening For Relative Strength

When you’re investing in single stocks, your goal is to identify those with momentum for superior returns. Within any market cycle, top-performing stocks often align with prevailing market trends, yet the leading stock in a particular sector can still surpass even the runner-up within that same sector.

With Deepvue’s tools for charting and filtering, pinpointing a stock’s relative strength becomes straightforward, enabling you to swiftly identify which stocks have the potential to lead the market. Regularly Screen for Relative Strength to find the strongest stocks.

Relative Strength Line Examples

Note how while the market index was falling the price remained stable, yet the RS Line for NFLX went up. Once the market-wide selling pressure eased, NFLX then advanced to new highs.

COIN exhibited similar behavior, maintaining a sideways price movement during the market’s decline. When the market’s selling pressure decreased, COIN surged to new highs.

ELF was one of the biggest winners of 2022 as the price consistently claimed. The RS Line confirmed the strength trending higher the whole move.

The Relative Strength Line Unlocks Market Dynamics

The relative Strength Line equips traders with the ability to discern market leaders from laggards early on. By integrating this tool into your analysis, you’re not just following the price; you’re anticipating where the price might go next, based on relative performance strength.

Unlike many traditional indicators that lag price action, the RS line provides predictive insights, offering a heads-up on whether a stock will likely surge or falter in comparison to the market or another benchmark. At its core, the RS line distills complex market dynamics into a simple line graph, making it profoundly insightful for determining a stock’s strength.

• Stocks with ascending RS Lines are outperforming the market
• Stocks with descending RS LInes are underperforming the market

Remember to focus on stocks that maintain or improve their RS line during market corrections as they are often the ones to potentially lead in the next market upturn. Whether in a bull or bear market, understanding and utilizing the RS line can significantly enhance your investment strategy, making it a pivotal element in the quest for market outperformance.