Hello there, this is tradingpedia.com and this video deals with an important technical analysis concepts – one of the oldest concepts that exist, called point and figure charting. This is only an introduction to how to trade with it. I would like in this video to present the elements of this theory and just to pinpoint the basics of it, but on future videos we will look at more details on how to use it.
Point and Figure Chart
This is the GBPUSD daily chart, showing normal candlesticks. Before candlestick charts, bar charts existed in the United States and then candlesticks increased in popularity, especially among retail traders. But many other types of charts exist, and one of them is point and figure. Its biggest advantage is that it reduces the market noise.
For instance, on this GBPUSD chart we see mostly bullish and bearish candlesticks, or green and red ones, but most of the time the market just not moves. For instance, this is a range for more than a month, this is another, and so on. Therefore, the main difference between point and figure charting and classic charts is that point and figure comprises the time element.
If we switch to a point and figure chart on the GBPUSD, it looks like this. What is the biggest difference that you can see here on chart? The first thing to note is the time element. For instance, on the classic candlesticks chart, its shows the price action on the previous six months up to November 2020. However, if we switch to a point and figure chart we see the price action all the way back to 2006 and even to 1994. Therefore, the price action for the last two decades appears on this chart.
As you can see, a point and figure chart has two elements – Xs and Os. These two form on vertical columns – one that is rising, and one that is falling – bullish or bearish. The chart starts a new column on the right side of the present one only when certain conditions happen. More precisely, only when the market travels certain distances. If the market does not do so, the chart simply remains unchanged. This is the explanation for why point and figure charts cover such long periods of time in one single chart.
What is Box Reversal
So, what is the catch here? The catch comes from the concept of a so-called box. This is the reversal needed for the market to switch from bullish to bearish or bearish to bullish conditions. In this case, let’s focus on the current price – 1.3032. It has put four different Os to the downside, signaling a bearish trend on the GBPUSD. The market will only start a new column on the chart only when a certain move in the opposite direction happens. That move is related to the box that I mentioned a bit earlier.
There is a fine art in how to establish the size of this box. For some currency pairs, it could be 100 pips. On some other ones, that have smaller ranges, the box size should be smaller than that. Let’s assume that for the GBPUSD the box size is 100 pips. Therefore, in order for the chart to start an Xs column, the market need to travel in the opposite direction more than 100 pips, or more than the distance we established in the box.
That is called a 1-box reversal, but we can set the reversal condition to 2-box reversal or 3-box reversal. The more reversals considers, the fewer the number of columns will appear on the chart. For example, if we right-click on the chart and go on Settings, for the length of the box size we use the ATR – Average True Range. The ATR is calculated on 14 periods, the default setting.
Look at the reversal box. It means that on a box size of ATR with 14 periods, in order for the GBPUSD to post a new O or X column, the market must travel three-times the ATR for the last 14 periods. Does it make sense? Let’s put it in a simpler form and change the reversal to 1. It means that if the GBPUSD reverses by more than the last ATR in the last 14 periods, the chart will put an X, or if it moves to the downside more than the ATR for the last 14 periods, it will add another O to the chart. However, if the market does not exceed the ATR for the last 14 periods on any given day, the chart will not plot an X nor an O.
The 3-box reversal is the most common one to use and if the 3-box reversal is 300 pips, if the market does not reverses that much, the chart remains unchanged.
This was an introduction to point and figure charting and we won’t go now into how to trade with it. But from now on when you happen to see such a chart, just so you know that Xs shows bullish conditions, Os show bearish conditions, point and figure chart eliminate long-term consolidations, and the way to define the box range is to use the ATR. Also, a 3-box reversal is commonly used. For trading with point and figure, we will need at least one more explanatory video. Bye, bye.