POINT & FIGURE CHARTS PROVIDE PRECISION, SIMPLICITY, AND DISCIPLINE TO TRADING DECISIONS -- BOX SIZE DOES MATTER -- USE THEM IN CONJUNCTION WITH BAR CHARTS
EXTREME SIMPLICITY ... One of our readers asked that I review some current point & figure charts. The beauty of p&f charts is the precision of buy and sell signals and their extreme simplicity. [P&F is also the oldest form of charting in the U.S.]. I know that some of you aren't familier with this type of charting and prefer the more traditional bar charts. In fact, they should be used together. Bar charts have all kinds of advantages, including volume analysis and a host of technical indicators. All point & figure charts do is tell you the current trend of a market. And they do it in a remarkably simple way. Chart 1 is a p&f chart of the Dow Industrials. Each box is worth 50 points. The x columns show rising prices, while the o columns represent falling prices. This is a three-box reversal chart which means that Dow prices must reverse by the equivalent of three boxes (150 points) to move into the next column. [You can vary the box size if you wish to make the chart more or less sensitive. You can also base the box size on percentage changes]. A buy signal is given when an x column exceeds a previous x column (an upside breakout). [A sell signal occurs when an o column is broken to the downside]. Chart 1 shows four buy signals occurring since the Dow's July bottom. The first buy took place at 11050 during July and the second at 11350 during August. [The red numbers 7 and 8 represent calender months]. Several downside corrections (o columns) have taken place since August. None of the o columns, however, have fallen below a previous o column (no sell signals have been given). Right now, the Dow would have to fall to 12300 to issue a short-term sell signal. [Although p&f charts rely on intra-day high and low prices, I require a close below a support level to issue a sell signal].
Chart 1
SOMETIMES P&F CHARTS NEED ADJUSTING ... Charts 2 and 3 show two different p&f charts for the S&P 500. That's because I've changed the box size in Chart 3. There's a reason for doing that. Chart 2 used a 10-point box size (the current default value). A buy signal was given for the S&P 500 at 1290 at the start of August. [That was 140 points (or +10%) ago]. That buy signal is still intact. To give a sell signal in Chart 2, however, the S&P would have to fall all the way back to 1220 (210 points or -15%). That's not realistic. What I did then was to reduce the box size from 10 to 5 points in Chart 3. That makes the p&f chart more sensitive and results in several downside corrections since August in Chart 3. There are two advantages to using the smaller box size in Chart 3. For one thing, smaller boxes produce more "repeat" buy signals. The 5 point box in Chart 3 produced five buy signal in the S&P since July. [Chart 3 also produced an earlier buy signal at 1265 during July than occurred in Chart 2]. The successive buy signals in Chart 3 offered several buying opportunities, while the less sensitive boxes in Chart 2 offered only one. The second advantage of the smaller box size in Chart 3 is a closer sell signal. The S&P 500 would have to close at 1400 or lower to give a short-term sell signal (only 2% from its current price). That's a more realistic number for those wishing to protect profits. One good approach to letting profits run (while protecting against a downturn), is to "stagger" stopout points. Chart 3 offers four different stopout points -- 1400 (-2%), 1385 (-3%), 1375 (-4%), or 1360 (-5%).
Chart 2
Chart 3
MAKING THE NASDAQ LESS SENSITIVE ... There are times when the less sensitive p&f chart works better than the more sensitive one. That's the case with the Nasdaq. Chart 4 plots a 10-point box (the default value) for the Nasdaq Composite. Since the start of January (red number one), the Nasdaq has given two buy signals -- one at 2450 and another at 2470 as it hit a new six-year high. Unfortunately, it also gave a couple of short-term sell signals just prior to the recent upturn. That might have resulted in some premature selling. Chart 5 eliminates that problem by doubling the box size from 10 to 20 points. Chart 5 shows a buy signal at 2100 at the start of August (red number 8). That's 400 points (+20%) ago. The less-sensitive boxes in Chart 5 show a minor consolidation between 2460 and 2400 prior to last week's upside breakout. No sell signal was given. The ability to adjust box size makes p&f charts very flexible. Shorter-term charts (smaller boxes) give earlier signals, but more false ones. Longer-range charts give later signals, but less false ones. Then again, that's the case with all forms of technical analysis.
Chart 4
Chart 5
P&F CHARTS PROVIDE DISCIPLINE ... Another advantage of point & figure charting is that they help provide trading discipline. They do so by encouraging traders to follow the market's buy and sell signals, and to avoid acting prematurely when no signals are visible. The energy complex is a good example of that. Chart 6 plots the United States Oil Fund (USO) which is an exchange traded fund based on the price of crude oil. The USO gave a sell signal at 67 during August and has since fallen $23 (-34%). [It gave a false buy signal at the end of November at 55 which quickly reversed to another sell signal]. Since the start of the new year, no buy signal has been given in the commodity. The same downtrend is shown in the two energy EFTs. Chart 7 shows the Oil Service Holders (OIH) giving an initial sell signal at 144 during December, and three repeat sell signals since then. No p&f buy signal has been given. Chart 8 shows a sell signal in the Energy SPDR (XLE) at 58 at the start of January. No p&f buy signal has yet been given. I'm not suggesting that point & figure trading signals should be followed slavishly in any market. But they do provide an additional trading discipline when combined with bar charts. That's especially true when a new trend is starting, and when we're looking for a possible end to an existing trend.
Chart 6
Chart 7
Chart 8
