Understanding point and figure charts
Previously, we have learned the basic constructions of Point & Figure charts. Now, let us understand the practicality of point & figure charts in technical analysis.
Point and Figure signals
One of the great advantages of Point and Figure charts is the unambiguity of the buy and sell signals they generate. The signals are unambiguous and make the charts easier to interpret. These buy and sell signals are created by demand overcoming a resistance level or supply overcoming a support level.
Double-top and bottom patterns
If, on a second attempt, demand, represented by a new column of Xs, overcomes supply and the column of Xs breaks above the previous column of Xs (above the blue line in Figure 3-1), this is the most basic Point and Figure buy signal. This pattern is essentially a 3-box reversal pattern that has little or no significance in I -box reversal charts.
It is referred to as a double-top when looking at 3-box charts and a semi-catapult when referring to 1 -box charts. They are, in fact, the same pattern created from exactly the same data and in both cases the signal occurs when, after a small correction, an X is plotted above the highest X in the pattern. But 1 -box charts offer more detail than 3-box charts and so the chart will look different. For this reason it is just as well to differentiate by using separate names.
Continuation double-top buy signal in 3-box reversal charts
Continuation double-top buy signal in 3-box reversal charts Nifty chart.
Equivalent semi-catapult in 1 -box reversal charts
Conversely, if supply, represented by a new column of Os, overcomes demand and the column of Os breaks below the previous column of this is the most basic Point and Figure sell signal. It is called a double-bottom sell signal in 3-box charts and a semi-catapult in I -box charts. The signal occurs when a 0 is plotted below the lowest 0 in the pattern.
Continuation double-bottom sell signal in 3-box reversal charts.
Variations of bearish semi-catapults in 1 -box reversal charts.
Continuation as well as reversal
In 3-box charts, it is important to note that double-top and double-bottom patterns can be either continuation or reversal patterns, that means they can either occur after a pause during an up or downtrend, or at the end of a trend as a trend reversal. There is no distinction between them other than that continuation patterns comprise at least 3 columns, and reversal opposite comprise at least 4 columns. This is simply because a continuation pattern requires that the same column type (X or 0) leaves the pattern as entered. Therefore, a column of Xs entering the pattern leads to a reversal of a single column of Os, which in turn leads to a second column of Xs leaving the pattern in the direction the pattern was entered. The same applies to a double-bottom pattern where a column of Os enters and a column of Os leaves after a single reaction column of Xs.
The buy and sell signals are the same, except that the buy and sell signals generated from a continuation pattern are more reliable because they are in the direction of the prevailing trend. Reversal signals, on the other hand, are a complete change of mood and may initially be unreliable, or at least should be treated with caution.
Reversal double-top buy signal in 3-box charts
Reversal double-bottom sell signal in 3-box charts.
Reversal double-bottom sell signal in 3-box charts of Tata steel.