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Daily RSI divergences as a reason to hang fire

April 15, 2013

The blog has taken a bit of a back seat recently: Easter and trying to get an end result from this work. Today I’ll update on some calls of the last few months and make some new ones.

On 26 March, I showed the base forming on the pair of Kimco Realty (KIM) against Post Properties (PPS).

Daily chart

KIMPPS DAILY 150413
I showed the RSI divergence on the daily chart and suggested that this might be the point at which the ratio pulls back into the base. One last high was in fact made on 02 April but since then, the ratio has pulled back. To restate from 26 March:

Ideally, the ratio will pull back to near the top of the base and the moving averages, somewhere around 0.43 to 0.44. Given that this is a long term trend change, the unwinding from short term overbought may be more in time than price.

There are no precise entry criteria for these long term moving average crossovers. They are more suited to setting stock weightings within a long only fund than as well defined pairs trades.

The use of daily RSI divergences

Daily RSI divergences are not reliable enough as entry criteria (that requires weekly divergences) but they can warn against an action, or be used as an excuse to close a position. Here is another example with Limited Brands (LTD).

Limited Brands (LTD) v S&P500 Index

LTDSPX DAILY 150413
This moving average crossover was shown on 04 February. There has not been a cross back over, which would take a long time to achieve and would be a clumsy exit signal. Nor was there a weekly RSI divergence to signal a rally in the ratio.

The 14 day RSI however did show divergence in late February, leading to a short term rally, then another divergence at the low on 21 March.

Summary

Daily RSI divergences often lead to pullbacks in a trend, sometimes sizeable and it is a good idea to let such a divergence unwind before entering a longer term position.

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