Relative Strength (Dorsey)

This form or Relative Strength was described and used in the book “Point & Figure Charting” by Thomas Dorsey. Dorsey was using XO-charts, but one can also interprete it on a regular chart.

The formula for calculating the indicator is quite simple:

RSD= ( close / close_index ) * 100

The value of the indicator is calculated each day by dividing the price of the security by the price of the index. It is multiplied by 100 just to have some numbers that are more or less ‘reasonable’, but this doesn’t impact the behavior of the indicator.

It is easy to see that if this indicator rises the stock is outperforming the market and if it declines, the stock underperforms the market. The rising or declining is independent of the actual rise or decline of the stock itself. The Relative Strength only expresses how the stock performs relative to the market. It is perfectly possible for a rising stock to have a declining relative strength: if the market rises harder, the division will lead to smaller numbers each day.

Currently, you can not choose the index that is used to compare to. We always compare with the S&P 500 index and we use the ETF with ticker ‘SPY’ to do this. ( As a consequence: if you look at the Dorsey Relative Strength for SPY, it will always be 100 )

So what can we do with this indicator? Have a look at the following chart:

Dorsey_Relative_Strength

  • First of all, you can just look at whether a stock is out- or underperforming the market. If its Relative Strength is rising, it is outperforming the market. ( As we see on this chart ).
  • In Dorseys book, this form of Relative Strength is used to look for Relative Strength breakouts. As on the chart, you can draw support & resistance lines on the RS indicator chart. A breakout of the RS confirms that a stock starts outperforming the market.
  • The same thing is applicable to sectors. You can analyse which sectors gain relative strength compared to the general market. Similarly, you can also compare stocks to their sector index to see which stocks are strong in a certain group.