I should say that if anybody has a good enough memory to recall thousands of changing figures, in hundreds of stocks, in a dozen averages, over a period of years, he can absolve himself from the labor of keeping charts. (DeVilliers, 1933, p. 16)
1. Time and Volume Omitted
Point and figure charts appear odd at first because we are accustomed to having charts with time along the horizontal axis. Those familiar with bar charts are also used to having volume plotted along the horizontal axis. Point and figure charts, of course, have neither time nor volume portrayed. Both are considered irrelevant to the point and figure advocate. Price action is all that such an analyst is interested in. Price is the focus. In this sense, a point and figure technical analyst is a purist. In the beginning of this book, we pointed out how price, not time nor volume, is the single result of all information. Time and volume are ancillary factors that might or might not have affect price. The analyst must concentrate on what a price change alone might suggest for the future.
Of course, price change is the result of changes in supply and demand. Time is but one factor, and it is not important to those utilizing point and figure analysis. Similarly, volume might be important but not by itself.
An increase or decrease in volume is meaningless if the price remains unchanged. Only when the volume affects price change does it become important. The point and figure chart only plots price change, and volume and time then become unimportant.
As we saw in Chapter 15, volume is also suspect as a predictive factor for performance. Increased volume can appear or not appear, for example, on breakouts, and the results are roughly the same. Thus, the concept of volume has some weaknesses, all of which are avoided in point and figure charts.
2. Continuous Price Flow Necessary
Point and figure charts require a continuous price flow to be accurate. Other methods of charting prices divide price action into arbitrary periods and analyze the price action from period to period. This creates the arbitrary time of open, close, high, and low, and although depictions of these price points can be used, as we saw in the previous chapter, we must remember that they are arbitrary, human divisions of time that may be unrelated to price action. Conversely, point and figure analyzes all price action. In some periods, price action may be relatively dormant and meaningless, while in other periods price action may be active and meaningful. Point and figure relates only to that active period and disregards the inactive period. It, thus, screens out price action that has little predictive ability and concentrates on that which does.
Often, price action outside of the local normal trading day is lost when using time period charts. Requiring a continuous flow of price information, point and figure analysis is ideal for interpreting the 24-hour markets that do not have a beginning or end in time and can flair up into activity, especially in foreign exchange, at any time during the 24-hour period. Point and figure analysis disregards those periods when trading is dormant and only concentrates on those in which important activity occurs. After all, the point and figure method of charting developed as a result of the invention of the ticker tape, the first means by which prices were reported in a continuous flow. Until then, prices were only recorded on a daily basis, an arbitrary cutoff that could easily mask important price change information intraday or overnight. Point and figure is also useful in futures markets where volume is unknown and not a consideration in trading. In short, although seeming to be archaic, point and figure still has many uses and, as we shall see later in this chapter, has been tested and found to have statistically positive results.
3. “Old” and “New” Methods
Only two variables, determined by the analyst, describe a point and figure chart: box or point size and the number of boxes or points required for a reversal, called the reversal amount or reversal size. This is important to understand because the early point and figure charts were strictly one by one. In other words, the box size was one price interval such as a dollar in a stock price, and the reversal amount was one box. The patterns that evolved using this method are more complicated, are subject to analyst interpretation, and, thus, are more difficult to test statistically. They are accurate portrayals of price action, however, because they include every price transaction in the particular security. Later, the one by three point and figure, called a three- box reversal point and figure chart, became popular because it did not require as much data flow. It should be plotted, as the one-box chart, using a continuous flow of price data, but it can be estimated from daily prices in the newspaper. When estimated from daily prices alone, it loses its accuracy because intraday price action that might have been meaningful is eliminated. The three-box reversal chart does simplify analysis, however, because its method still screens out some unimportant price changes and produces an extremely simple, well- defined picture that can be tested, as we shall see later.
When discussing point and figure, many people confuse the two types—the old and the new—and assume that the rules and patterns for one are the same as for the other. As we will see, however, the rules and patterns are quite different. Thus, the usage of the term point and figure should always be qualified as to whether one-box reversal or three-box reversal is being discussed.
Source: Kirkpatrick II Charles D., Dahlquist Julie R. (2015), Technical Analysis: The Complete Resource for Financial Market Technicians, FT Press; 3rd edition.
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