Point and Figure

1. Point and Figure Charting: A Beginner's Guide

Point and Figure (P&F) charting is a type of price charting that focuses on *significant* price movements, filtering out minor fluctuations. Unlike traditional time-based charts (like line, bar, and candlestick charts), P&F charts filter time and focus solely on price changes. This makes them particularly useful for identifying potential support and resistance levels, charting patterns, and projecting price targets. This article will provide a comprehensive introduction to P&F charting for beginners.

What is Point and Figure Charting?

Traditional charts plot price against time. P&F charts, however, plot price against *volume of price movement*. Each "X" and "O" represents a specific price movement, and a new column is only created when the price moves by a predefined amount. This predefined amount is known as the "box size." The box size is crucial because it determines the sensitivity of the chart – a smaller box size will be more sensitive to price changes, while a larger box size will filter out more noise.

The core elements of a P&F chart are:

• **X:** Represents a price *increase*.
• **O:** Represents a price *decrease*.
• **Box Size:** The minimum price movement required to place an X or O. For example, a $1 box size means the price must increase or decrease by at least $1 before a new X or O is placed.
• **Reversal Amount:** The amount the price must move *against* the current trend to initiate a new trend and switch from Xs to Os, or vice versa. This is typically larger than the box size, providing confirmation of a trend change. A common reversal amount is twice the box size.
• **Columns:** Vertical lines where Xs and Os are stacked. A new column begins when the price moves sufficiently to warrant it.

How to Construct a Point and Figure Chart

Let's illustrate with an example. Suppose we are charting the price of a stock and we set a box size of $2 and a reversal amount of $4. Let's say the stock price moves as follows:

1. Starts at $50. 2. Rises to $53. 3. Rises to $56. 4. Falls to $54. 5. Rises to $58. 6. Falls to $52. 7. Falls to $48. 8. Rises to $50.

Here's how the P&F chart would be constructed:

1. **Initial Point:** Start with an "X" at $50. 2. **$53:** The price has risen by $3, exceeding the $2 box size. Add another "X" above the first "X". 3. **$56:** The price has risen by another $3, exceeding the $2 box size. Add a third "X" above the second "X". 4. **$54:** The price has fallen by $2, but this doesn't trigger a reversal because it's not equal to or greater than the $4 reversal amount. No change to the chart. 5. **$58:** The price has risen by $4, exceeding the $2 box size. Add a fourth "X" above the third "X". 6. **$52:** The price has fallen by $6, exceeding the $4 reversal amount. This triggers a reversal. Start a new column, and place an "O" at $52. 7. **$48:** The price has fallen by $4, exceeding the $2 box size. Add another "O" below the first "O". 8. **$50:** The price has risen by $2, but this doesn't trigger a reversal because it's not equal to or greater than the $4 reversal amount. No change to the chart.

The resulting chart would have a column of four Xs followed by a column of two Os.

Key Patterns in Point and Figure Charting

P&F charts are excellent for identifying classic chart patterns. Here are some important ones:

• **Double Top/Bottom:** These patterns are similar to those on traditional charts. A double top appears as two consecutive highs that fail to break through a resistance level, suggesting a potential reversal. A double bottom appears as two consecutive lows that fail to break through a support level, suggesting a potential bullish reversal.
• **Triple Top/Bottom:** Similar to double tops/bottoms, but with three attempts to break the resistance or support level. These are generally considered stronger signals.
• **Head and Shoulders:** This pattern indicates a potential bearish reversal. It consists of a peak (the head) with two lower peaks on either side (the shoulders).
• **Inverse Head and Shoulders:** This pattern indicates a potential bullish reversal. It's the mirror image of the head and shoulders pattern.
• **Breakaways:** A strong move through a previous high or low, confirming a new trend.
• **Bearish/Bullish Flags & Pennants:** These continuation patterns signal a pause in the prevailing trend before it resumes.

Using Point and Figure Charts to Identify Support and Resistance

P&F charts make it easy to identify support and resistance levels.

• **Support:** Look for areas where the chart repeatedly makes lows, indicated by clusters of "O"s. These areas suggest potential buying pressure and could act as support.
• **Resistance:** Look for areas where the chart repeatedly makes highs, indicated by clusters of "X"s. These areas suggest potential selling pressure and could act as resistance.
• **Horizontal Counts:** A horizontal count is formed when a series of Xs or Os are stacked horizontally. The length of the count can be used to project potential price targets. For example, a horizontal count of five Xs suggests a potential price target that is five box sizes above the current price.

Projecting Price Targets with Point and Figure Charts

P&F charts are particularly powerful for projecting price targets. The primary method involves using horizontal counts:

1. **Identify a Horizontal Count:** Locate a series of consecutive Xs or Os. 2. **Measure the Count:** Count the number of Xs or Os in the horizontal row. 3. **Project the Target:** Multiply the count by the box size and add (for bullish projections - Xs) or subtract (for bearish projections - Os) the result from the breakout point.

For example, if you have a horizontal count of 7 Xs and a box size of $3, the projected price target is 7 * $3 = $21 above the breakout price.

Advantages of Point and Figure Charting

• **Filters Noise:** By focusing on significant price movements, P&F charts filter out minor fluctuations that can clutter traditional charts.
• **Clearer Signals:** The simplicity of Xs and Os makes it easier to identify patterns and potential trading opportunities.
• **Objective:** The rules for constructing a P&F chart are relatively objective, reducing the influence of subjective interpretation.
• **Easy Target Identification:** Horizontal counts provide a straightforward method for projecting price targets.
• **Focus on Price Action:** P&F charts eliminate time as a factor, placing sole emphasis on price movements. This aligns with some trading philosophies that prioritize price action above all else.

Disadvantages of Point and Figure Charting

• **Lagging Indicator:** P&F charts are lagging indicators, meaning they confirm a trend after it has already begun.
• **Subjectivity in Box Size and Reversal Amount:** Choosing the appropriate box size and reversal amount can be subjective and requires experimentation. Incorrect settings can lead to missed opportunities or false signals.
• **Limited Information:** P&F charts do not provide information about trading volume or time, which some traders consider important.
• **Can be Slow to React:** Due to the filtering of noise, P&F charts may be slow to react to rapid price changes.
• **Not Ideal for Short-Term Trading:** The nature of P&F charting makes it better suited for medium to long-term trading strategies rather than quick scalps.

Combining Point and Figure with Other Technical Analysis Tools

P&F charting is most effective when used in conjunction with other technical analysis tools. Consider combining it with:

• **Moving Averages**: Use moving averages on a traditional chart to confirm trends identified on the P&F chart.
• **Relative Strength Index (RSI)**: Use RSI to identify overbought or oversold conditions.
• **MACD**: Use MACD to confirm trend changes and identify potential momentum shifts.
• **Fibonacci Retracements**: Use Fibonacci retracements to identify potential support and resistance levels.
• **Volume Analysis**: While P&F charts don’t directly show volume, incorporating volume analysis on a traditional chart can provide additional confirmation of price movements.
• **Elliott Wave Theory**: Use P&F to visually confirm wave patterns.
• **Bollinger Bands**: Use Bollinger Bands to identify volatility and potential breakouts.
• **Ichimoku Cloud**: Use the Ichimoku Cloud for identifying trends and support/resistance.
• **Candlestick Patterns**: Confirm P&F signals with candlestick patterns on a traditional chart.
• **Support and Resistance Levels**: Identify key levels on traditional charts to corroborate P&F findings.
• **Trend Lines**: Use trend lines to confirm the direction of the trend identified on the P&F chart.
• **Chart Patterns**: Confirm P&F patterns with traditional chart patterns (e.g., Head and Shoulders, Double Tops/Bottoms).
• **Stochastic Oscillator**: Use the Stochastic Oscillator to identify potential turning points.
• **Average True Range (ATR)**: Use ATR to measure volatility and adjust box sizes accordingly.
• **Donchian Channels**: Utilize Donchian Channels to identify breakout points.
• **Parabolic SAR**: Employ Parabolic SAR to identify potential trend reversals.
• **Williams %R**: Use Williams %R to gauge overbought and oversold conditions.
• **Chaikin Money Flow**: Incorporate Chaikin Money Flow to assess buying and selling pressure.
• **On Balance Volume (OBV)**: Utilize OBV to confirm price trends.
• **Accumulation/Distribution Line**: Use this line to identify potential divergences.
• **ADX (Average Directional Index)**: Employ ADX to measure trend strength.
• **Keltner Channels**: Use Keltner Channels to identify volatility and potential breakouts.
• **Pivot Points**: Identify key support and resistance levels using pivot points.
• **VWAP (Volume Weighted Average Price)**: Use VWAP to identify areas of value.
• **Market Sentiment Analysis**: Combine P&F with broader market sentiment indicators.
• **Intermarket Analysis**: Consider the relationships between different markets.

Choosing the Right Box Size and Reversal Amount

Selecting the appropriate box size and reversal amount is critical. There's no one-size-fits-all answer, and it often requires experimentation. Here are some guidelines:

• **Volatility:** More volatile assets generally require larger box sizes to filter out noise. Less volatile assets can benefit from smaller box sizes.
• **Timeframe:** Longer-term traders typically use larger box sizes than shorter-term traders.
• **Personal Preference:** Some traders prefer to use a fixed percentage of the asset's price as the box size (e.g., 1% or 2%).
• **Reversal Amount:** A common starting point is to set the reversal amount to twice the box size. However, you may need to adjust this based on the asset's volatility and your trading style.
• **Backtesting:** Always backtest different box sizes and reversal amounts to see which settings produce the best results for the specific asset you are trading.

Conclusion

Point and Figure charting is a valuable tool for traders of all levels. Its ability to filter noise, identify patterns, and project price targets makes it a unique and effective approach to price action analysis. While it has its limitations, when used in conjunction with other technical indicators and a solid trading strategy, P&F charting can significantly enhance your trading performance. Remember to practice and experiment with different settings to find what works best for you, and always manage your risk effectively. Understanding trend analysis is also vital when interpreting P&F charts.

Trading psychology also plays a crucial role in successfully implementing P&F charting strategies.

Risk management is paramount in any trading endeavor, including those utilizing Point and Figure charts.

Day trading can be attempted with P&F charts, but requires extremely quick analysis and adaptation.

Swing trading is a more common application for Point and Figure analysis.

Position trading benefits greatly from the long-term perspective offered by P&F charts.

Algorithmic trading can be developed around P&F chart patterns, automating trade execution.

Forex trading can utilize Point and Figure charting, but requires careful consideration of currency pair volatility.

Stock market investing is a frequent application of Point and Figure analysis.

Options trading can be informed by price targets identified on P&F charts.

Cryptocurrency trading can benefit from the noise filtering capabilities of P&F charting.

Commodity trading can also utilize Point and Figure charts for identifying trends.

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