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POINT AND FIGURE LIBRARY
How to Build a Point and Figure Chart
1. X’s represent rising prices, O’s represent falling prices. Each X or O represents a unit of value which is chosen by the chartist and can be altered to produce a chart which is more sensitive or less sensitive to price movement. In general, daytraders will use very sensitive charts i.e those with lowest feasible unit value per box. For swing traders, I recommend a minimum box value of 0.5%, and a desirable box value of about 1-2%. Low box values of about 0.5% or slightly higher can be used for charting equity indices, but in my opinion, box values of at least 1% should be used in the case of individual equities. Academic studies have proven that bigger box sizes work best.2. The point & figure chart is constructed as a series of columnar reversals. It is possible to use a 1 or 2 box reversal method, but the standard, and the best way is the 3 box reversal method. With the 3 box reversal method, no reversal i.e no new column is ever plotted until the reversal has reached the threshold of 3 full boxes. Again academic studies have proven that the 3 box reversal method is superior to other box reversals.
3. Time is not recorded on the X axis. Effectively the X axis simply records, by columns of Xs and Os, the number of occasions upon which there has been a (deemed) relevant reversal in price.
4. Each X or O is plotted only when the exact price level has been attained or surpassed. There is no rounding up or down. So in a 5p box chart, where a market advances from 350p to 379p, then falls to 361p, five additional Xs will be plotted taking the chart up from 350p to 375p, but 380p will not be plotted because it has not been attained. A 3 box reversal from 375p would be achieved by a fall to 360p, which one would plot by entering 3 Os in the next column. Although the share price has fallen 18p from its highs which seems like more than 3 boxes, no reversal is plotted in this case because the 4p between 375p and 379p is effectively ignored. The market will need to reverse to 360p for the reversal to be plotted. Suppose that the market now trades up from 361p to 377p. No new plot is made. It then trades down to 363p. Still no new plot is made. These minor oscillations are regarded by the point & figure chartist as background noise. Finally the share trades down to 358p, before rallying to 376p on the same day. Now a new column of 3 Os will be plotted to record the print at 360p, and a further new column of 3 Xs will be plotted to record the rally from 360p to 375p. All the above price action may have taken place in one day, or spread over 2 days or spread over a much longer period. It makes no difference to the plotting of the chart.
5. Now change the box size to 10p and a different picture emerges. All the chart will show is 2 additional Xs to record the advance from 350p to 370p. Since no 30p reversal has occurred, there will be no column of Os until and unless 340p prints.6. Now change the box size to 3p. The first rally from 350p to 379p will result in 9 additional Xs to record the print up to 377p. It will be followed by a column of 5 Os to record the fall to 362p, then another column 5 Xs to record the rally to 377p, then another column of 6 Os to record the fall to 359p, and finally a column of 5 Xs to record the rally to 374p. So the 5p box chart has 3 columns, the 10p box chart has 1 column and the 3p box chart has 5 columns.
The three charts reflect the same price action like this
Dangers of swing trading based on signals from a point & figure chart constructed using closing prices only
7. Suppose that after a long straight decline to 300p, where it closes, a share records the following price movement in the ensuing days.
Day 1 It rallies to 312p, then falls to 298p before closing at 302p.
Day 2 it rallies to 313p, then falls to 303p, before closing at 306p.
Day 3 It rallies to 340p and closes at 340p.Now construct a 3px3 point & figure chart. A real-time chart would show a triple top buy signal with rising lows, one of the most powerful signals there is. You would buy at 315p on day 3 and you would be showing a healthy profit.
A chart constructed with closing prices would show none of the demand that kept on coming in earlier and earlier on days 2 and 3. It would show no buy signal at all, only what looked like a bear market rally with a single column of Xs rising from 300 to 339p. So that would amount to a missed opportunity. But missed opportunities are the least of the problem. A point & figure chart based on closing prices can positively mislead you into buying (or selling) at precisely the wrong time.
Take the same example as above but change the closing prices to 309p on day 1, 300p on day 2, and then the following prices are recorded.
Day 3 It rallies to 312p and closes at 309p
Day 4 It rallies to 314p and then falls to 300p and closes at 300p.
Day 5 It rallies to 312p and closes at 312p.A point & figure chart constructed on closing prices would record a clear buy signal as shown below.
But no buy signal has in fact occurred. The market has met selling every time it has got to 312p or above. It is precisely the wrong time to be buying at 312p, right up against the resistance which has so far prevailed. You should be doing nothing, but if a gun was put to your head you’d sell, not buy at 312p. The real-time chart shows that the market is still in a state of equilibrium
You have only to do a little trading to see how often these resistance levels hold at the top of a consolidation/equilibrium pattern. It’s a potential disaster to use closing prices to construct a point & figure chart for swing trading purposes.
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