How does Point & Figure work?
What’s unique about Point & Figure charting is that time is not a factor. Rather than each column corresponding to a particular period of time, we simply alternate columns of Xs and Os, with Xs indicating a security’s price is rising and Os indicating a security’s price is falling. As far as we’re concerned, when a particular movement occurred is far less important than what that movement tells us about the direction in which the security is headed.
The numbers along the top and bottom of a chart indicate the year, with the first column in a particular year highlighted. You'll notice that the number of columns in a year will vary since switching columns is only caused by price movement.
Charting method
- Point & Figure charts are plotted using a security's intraday high & low.
- We view closing value as an arbitrary point in time and would rather document the highest or lowest price the security reached regardless of when it happened. It is important to remember that Point & Figure charting is only concerned with direction and does not care about time.
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A security’s price needs to reverse 3 boxes in order to switch from a column of Xs to a column of Os and vice versa.
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Waiting for a 3 box reversal ensures we have seen significant enough price movement to warrant a move to a new column. In other words, near term supply/demand has shifted.
- This allows us to filter out volatility that naturally occurs in a security’s price each day to smooth out the chart for a clearer picture of how it has moved over time
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Price is only plotted in one direction at a time
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If on a given day, the high and low would warrant plotting movement in both a column of Xs and a column of Os, we only record the movement that happened in the chart's current column. So if we were already in a column of Xs, we only plot additional Xs that day.
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- Changes do not need to be plotted every day
- We only record changes as necessary/when they are significant enough
- If price movement isn’t large enough to move into a new box in the current column or reverse into a new column, the chart simply remains unchanged at its current level
Box Size/Scale
With our default chart scale, a chart’s box size adjusts as the security’s price rises, which allows us to ensure we are still focused only on price changes that are significant relative to a security’s current price level.
Changing the scale of a chart will allow you to show more or less volatility, allowing you to adjust the time frame of your analysis as a result. Smaller scales will show more volatility and a shorter time frame. Larger scales will smooth out the chart to show less volatility and a longer time frame. While our security scores will still be based on the default scale, alternate scales can be helpful for viewing underlying levels of support or resistance to help with developing a trading strategy for a security.
Signals
As we alternate columns, the tops and bottoms of these columns will form near term levels of support and resistance. Breaks through these levels of support/resistance form the patterns that inform our decision making by allowing us to create a rules-based investment process. These patterns create clear and actionable signals that allow us to objectively and unemotionally react to the market as it changes.
The two most basic patterns are the double top signal and double bottom signal
- A double top happens when a column of Xs reaches a point above the previous column of Xs
- This represents a break through a near term level of resistance and shows that demand is currently driving the security’s price to higher highs
- We refer to this as a buy signal
- A buy signal can be seen highlighted in green below
- A double bottom happens when a column of Os reaches a point below the previous column of Os
- This represents a break through a near term level of support and shows that support is currently driving the security’s price to lower lows
- We refer to this as a sell signal
- A sell signal can be seen highlighted in red below
If a security’s last signal was a buy, it is considered to be “on a buy signal” until it falls enough to register a sell signal. Similarly if a security's last signal was a sell, it is considered to be "on a sell signal" until its price rises enough to register a buy signal.
It is important to note that although we refer to these patterns as buy and sell signals, it is best not to think of them as primary indicators of what to buy and but rather as inflection points that may help with when to buy or sell a security. You can have a weak security show enough short term improvement to register a buy signal that we may still not considering buying based on its longer-term weakness.
Trend Lines
Trend is something we pay particularly close attention to and consider to be among the most important indicators of a security’s technical strength. First and foremost, we want to make sure a security is on the right track in order to invest in it. In the simplest terms, we want to own securities headed up and to the right and avoid securities headed down and to the right. Trend lines help us visualize that.
While columns and chart patterns indicate a security’s short-term direction, trend lines represent a charts ultimate support and resistance levels and determine a security’s long-term trend.
On our charts, trend lines are shown as dotted lines. The Red Dotted Line is referred to the Bullish support Line. A security trading above this line is in a positive trend. The security shown below would remain in a positive trend until it reverses down and falls below the Bullish Support Line.
The Blue Dotted Line is referred to as the Bearish Resistance Line. A security trading below this line is in a negative trend. The security shown below will remain in a negative trend unless it is able to rise back above the blue line.
We are only focused on one of these lines at a time. When a security is in a positive trend, the red bullish support line is all that matters, and when a security is in a negative trend the blue bearish resistance line is all that matters. On the chart below, once the security broke through the blue resistance line to move into a positive trend, a new red support line was drawn diagonally upward from the charts previous low. After the security fell through the red support line to move into a negative trend, the bearish resistance line was established by drawing a line from the chart’s previous high diagonally downward.
Month Indicators
Within the chart, the first plot in a given month is shown with a number or letter. Numbers 1-9 indicate January through September. October, November, and December are shown as A, B, and C. Since we are only plotting significant price movement, there will not necessarily be movement plotted in each month. These month indicators are shown below. Note how this chart skips from 2 to 4, which means there was no price movement significant enough to chart in March of that year.