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Indicators and ToolsIntermediate

Overbought and OversoldOB/OS

Overbought and oversold describe prices that have risen or fallen unusually far, unusually fast — often judged with oscillators such as RSI. Neither guarantees a reversal.

“Overbought” and “oversold” are among the most used — and misused — words in trading. They describe a price that has moved unusually far and fast compared with its recent behaviour. They do not mean the price is too high or too low, and they do not mean it must reverse. This entry explains how the terms are measured, where they help, and why selling everything that is overbought is one of the most reliable ways to lose money in a strong trend.

Category
Indicators and Tools
Reading time
5 min
Also called
Overbought, Oversold, Overbought market
Updated

Overbought and oversold in plain words

Overbought means a price has risen a lot in a short time; oversold means it has fallen a lot.1 They describe the recent move, like saying a runner has been sprinting.

With the RSI, readings above 70 are traditionally considered overbought and below 30 oversold — and those levels can be adjusted to suit a security, for example to 80 and 20.2 See Relative Strength Index.

How to use overbought and oversold readings, step by step

  1. Pick a measure

    RSI, the stochastic oscillator, distance from a moving average or Bollinger Bands. See Stochastic Oscillator and Bollinger Bands.

  2. Identify the market type

    In ranges, extremes often mark turning points; in strong trends, the RSI can remain overbought or oversold for long periods.2

  3. Adjust levels to the trend

    In an uptrend the RSI often holds 40–50 and reaches 70–90; in a downtrend it often stays 10–60.2

  4. Wait for a turn

    Use a reversal candle or a break of a short-term level rather than the reading alone. See Candlestick.

  5. Look for divergence

    A new price extreme with a weaker indicator reading adds weight. See Divergence.

  6. Define risk

    Counter-trend trades need a stop; extremes can become more extreme.

Worked examples

Example 1 — Oversold in a range

Range

A stock ranging between $40 and $46 drops to $40.30; RSI 27. A trader buys at $40.60 after a hammer, stop $39.40, target $45.50.

Example 1 — Oversold in a range — calculation
Risk$1.20
Reward$4.90
Reward-to-risk≈ 4.1 : 1

In a range, an oversold reading at support is a reasonable setup — with a stop below the range. See Range.

Example 2 — Overbought in an uptrend

Strength

A stock in a strong uptrend has RSI above 70 for 15 of 20 sessions, rising from $60 to $78.

Example 2 — Overbought in an uptrend — calculation
Price change+30%
Days “overbought”15 of 20

Persistently overbought readings in an uptrend are a sign of strength. In strong trends, the RSI may remain overbought for extended periods.2

Example 3 — Buying “oversold” in a crash

Downtrend

A stock falls from $50 to $40, RSI 22. A trader buys at $40. It continues to $31 over three weeks, RSI staying below 30 for most of the time.

Example 3 — Buying “oversold” in a crash — calculation
Loss$9 a share (−22.5%)

Oversold can become more oversold. Without a stop, a counter-trend trade in a downtrend can be costly. See Bear Market.

Figure 1

Overbought and oversold zones on the RSI

Price with a 14-period RSI below itThe upper panel shows the price; the lower panel shows the RSI on a scale from 0 to 100, with dashed lines at 70 and 30. The RSI rises above 70 near the price peaks and falls towards or below 30 near the troughs, turning before or as the price turns.PriceRSI (14)70 overbought5030 oversoldtime →
Readings above 70 are traditionally considered overbought and below 30 oversold. Price can keep moving while the indicator stays in a zone.

Overbought vs. oversold

AspectOverboughtOversold
Typical RSI levelAbove 702Below 302
MeansStrong recent riseStrong recent fall
In a rangeOften near resistanceOften near support
In a trendCan persist in uptrendsCan persist in downtrends

Where these readings help

  • Range trading

    Extremes near range edges are classic entry points. See Range Trading.

  • Pullback timing

    In uptrends, a dip to oversold-ish levels (or RSI 40–50) can mark the end of a pullback.2 See Pullback.

  • Avoiding chasing

    Very overbought readings can be a reason to wait for a pullback rather than buy immediately.

  • Mean reversion

    Strategies that fade extremes rely on these readings. See Mean Reversion.

Advantages and disadvantages

Advantages

  • Simple, quick way to see how stretched a move is.
  • Useful in ranges and for timing pullbacks.
  • Available on every platform.

Disadvantages

  • Not a signal to reverse a position on its own.
  • Persists in strong trends.
  • Levels and settings are arbitrary.
  • Different indicators can disagree.

Going deeper

Read as far as you need. Each level builds on the one before it.

Overbought is not “too expensive”

Beginner

The terms describe speed of movement, not value. A stock can be overbought and cheap, or oversold and expensive.

Shift the levels with the trend

Intermediate

Because the RSI tends to stay higher in uptrends and lower in downtrends, some traders treat 40–50 as “oversold” in an uptrend and 50–60 as “overbought” in a downtrend.2

Overextension from an average

Advanced

Another approach measures how far price is from a moving average in multiples of ATR or standard deviation. It works on any asset and makes “stretched” comparable across markets. See Average True Range.

Common mistakes

  1. Shorting every overbought reading

    In uptrends this fights the trend.

  2. Buying every oversold reading

    In downtrends, oversold can last.

  3. Ignoring the trend

    Read extremes in context of the larger direction.

  4. No stop on counter-trend trades

    Extremes can extend further.

Check your understanding

Test yourself before moving on. Each answer comes with an explanation.

Q1The RSI has been above 70 for two weeks while price keeps rising. What is the best reading?
Q2Where do oversold readings tend to be most useful?

Key points to remember

  1. Overbought/oversold describe unusually fast moves, not value.
  2. RSI above 70 and below 30 are the traditional levels.
  3. In trends, these readings can persist for long periods.
  4. Most useful in ranges and for timing pullbacks.
  5. Always combine with trend, structure and a stop.

Frequently asked questions

Does overbought mean I should sell?

No. It means the price has risen fast. In uptrends it often stays overbought. Combine it with other evidence before acting.

Which indicator is best for overbought and oversold?

The RSI is the most common; the stochastic oscillator and Bollinger Bands are also widely used. Use one consistently.

Can a market be overbought for weeks?

Yes, especially in strong trends. That is why these readings work best in sideways markets.

Further learning

Sources

This article is written in our own words. The sources below support the specific facts, rules and figures marked with a number in the text. Links open the original publisher’s page.

  1. StockCharts ChartSchool. Relative Strength Index (RSI) (opens in a new tab) Checked .
  2. Fidelity. Relative Strength Index (RSI) (opens in a new tab) Checked .

Read more elsewhere

Educational content, not financial advice. Examples use hypothetical prices and simplified costs; actual fees, margin rules and regulations vary by broker, market and country. Trading Metrics is our sister site, under the same ownership; we are not affiliated with any other publisher linked above. Last reviewed . Report an error or request a source credit.