Crypto glossary
Overbought and oversold
Overbought and oversold describe oscillator readings suggesting a price has risen or fallen too far, too fast, and may be due for a pause or reversal.
The terms come from bounded oscillators. On the RSI, readings above 70 are conventionally called overbought and below 30 oversold; on the stochastic oscillator the thresholds are usually 80 and 20. They indicate that recent gains or losses have been unusually one-sided compared with the indicator's lookback period.
In crypto, overbought and oversold readings are quoted constantly in market updates, and sentiment gauges like the fear and greed index use similar language. Oversold readings after capitulation days, when liquidations force selling regardless of price, have often preceded sharp relief bounces.
The classic error is assuming that overbought means sell. In strong bull markets bitcoin has stayed overbought on the weekly RSI for months while rising, and in crashes assets can remain oversold for weeks. The readings describe the speed of a move, not its end, so traders usually wait for the oscillator to leave the extreme zone or for a divergence before acting.
Example
After a 40% rally in three weeks, a token's daily RSI reads 84. A trader who shorts on the overbought reading loses money as the price climbs another 25% before the first real pullback.