Point & Figure charts consist of columns of X’s and O’s that represent filtered price movements over time. The charts ignore the time factor and concentrate solely on movements in price – a column of X’s or O’s may take several periods to complete. It is a study of pure price movement in that, time is not taken into consideration while plotting the price action. Since only price changes are recorded, if no price change occurs then the chart is left untouched.
By convention, the first X in a column is plotted one box above the last O in the previous column (and the first O in a column is plotted one box below the highest X).
Each X indicates that price has increased (and each O indicates that price has decreased) by one box. The sensitivity of the chart can be varied by altering the box size. The box size is the minimum price movement recorded and serves to eliminate minor price fluctuations. Larger box sizes are used for charting longer time periods. Increases are represented by a rising stack of Xs, and decreases are represented by a declining stack of Os
Creating a P&F Chart
On a P&F chart price movements are combined into either a rising column of X’s or a falling column of O’s. If you are familiar with standard chart analysis, you can think of each column as representing either an uptrend or a downtrend. Each X or O occupies what is called a box on the chart. Each chart has a setting called the Box Size that is the amount that a instrument needs to move above the top of the current column of X’s (or below the bottom of the current column of O’s) before another X (or O) is added to that column.
Each chart has a second setting called the Reversal Amount that determines the amount that an instrument needs to move in the opposite direction (down if we are in a rising column of X’s, up for a column of O’s) before a reversal occurs. Whenever this reversal threshold is crossed, a new column is started right next to the previous one, only moving in the opposite direction.
In a nutshell, as long as an instrument is in an uptrend and it doesn’t move down more than the ‘reversal distance’ (i.e., the box size multiplied by the reversal amount), the P&F chart will show a growing column of X’s. Similarly, an instrument in a downtrend will cause a descending column of O’s to appear. Only when the instrument changes direction by more than the reversal distance will a new column be added to the chart.
Point and Figure charts are used to identify support levels, resistance levels and chart patterns. There are several advantages to using P&F charts instead of the more traditional bar or candlestick charts.
P&F charts automatically eliminate the insignificant price movements that often make bar charts appear ‘noisy.’ It also removes the often-misleading effects of time from the analysis process.
P&F helps to recognize trend line very easily. It is also use to stay focus on the important long- term price developments. They are great for observing active market activity, and as such are very helpful in identifying support/resistance lines, buy/sell signals, and trend lines.
P&F charts are also very flexible in that they can easily be made more or less sensitive to price changes to discern between long and short-term trends. By varying box and reversal sizes, these charts can be adapted to almost any need. There are also many different ways these charts can be used for entry and exit points. As such, all types of traders can benefit from an applied understanding of P&F charting. Point and Figure charts can be a great time saver, conveniently summarizing trends and eliminating most short-term market “noise”. They also highlight major support and resistance levels.