The World According To Point & Figure

I’m no expert at Point & Figure charting, but I do find it useful for big-picture analysis. P&F charts focus mainly on price – or more specifically, the incremental progression of price. This allows P&F chartists to “see” trends, consolidations, and reversals from a price-dominated perspective.

Chart 1 presents the S&P 500 in P&F style. The price axis uses 5% increments suitable for long-term work.  Note that the time axis is irregular. The progression of time is driven by price. Since time is not uniform, P&F charts use ancillary labeling to track it.  The months of January-September are labeled 1-9; October, November, and December are labeled A, B, and C.

With this background, it’s easy to see the sideways consolidation from 2014-2016 and the breakout in August 2016.

Chart 1. S&P 500, 5% box size

The message of this chart is obvious:

  1. A bull market process has been in place since March 2009;
  2. The bull market has been punctuated by consolidations and breakouts;
  3. The bull market is old, but recently refreshed;
  4. The market is currently positioned three boxes above an eight-column consolidation range.

Perhaps the most interesting claim of P&F practitioners is an ability to define price targets from price breakouts. The method, as I understand it, is to multiply the number of columns in a sideways consolidation by box size and reversal factor. The product of this calculation gives the expected height (or depth) of a move, measured from the bottom (or top) of a consolidation range. In the present case we have:

  • 8 columns x 5% box size x 1-unit reversal factor = 40%

Some practitioners exclude the breakout column, giving:

  • 7 columns x 5% box size x 1-unit reversal factor = 35%

From this we target a 35%-40% rally from the February 2016 bottom near SPX 1810. The advance, then, should reach the vicinity of SPX 2440-2530 before entering another consolidation phase.

There’s nothing magic about this technique. It simply quantifies the well-known tendency for long sideways patterns to produce powerful moves in either direction. We all know the old adages: “The bigger the top, the bigger the drop” and “The bigger the base, the higher in space.” For a multi-decade review of P&F price-targeting accuracy, see Chapter 6, Dickson & Knudsen, Mastering Market Timing (2011).

Remember, however, that P&F targets are only a rough guide. The S&P 500 has already logged a 36% gain from the February 2016 bottom, so the upside from this technique is currently limited. If the technique has merit, however, it should apply to other markets beyond the S&P 500.

Non-U.S. equities, for example, appear to be forming a relative-strength bottom. Chart 2 presents the ratio of Vanguard’s All-World ex-US ETF (VEU) to the S&P 500 (SPY) using 3% box size suitable for paired trades. After a 50% drop since 2010, the pair has staged a ten-column sideways beginning in 2016. This pattern has significant upside potential, assuming an upside breakout.

Chart 2. VEU versus SPY, 3% box size

Doing the math, a breakout triggered at 21.8 would establish targets of 24.5 and 25.1:

  • 10 columns x 3% box size x 1-unit reversal factor = 30%

Or more conservatively:

  • 9 columns x 3% box size x 1-unit reversal factor = 27%

From this we target a 27%-30% rally from the December 2016 bottom near VEU/SPY 19.3.  A breakout rally, then, would project an advance to 24.5 or 25.1.

So what do these numbers mean? We’re dealing with ratios here, but ratios translate into relative performance of paired trades. The hypothetical gain from switching out of SPY into VEU at the 21.8 trigger – assuming an advance to the 25.1 target – is 15% in dollar terms (25.1/21.8 = 1.15).

But this matter goes beyond the dweeby math. In plain English, a move up and out of the ten-column sideways would support the case for long-term reversal.  And this would suggest far greater gains ahead.

So there you have it. The world according to Point & Figure. Or at least one interpretation.

By | 2017-07-11T10:00:56+00:00 July 11th, 2017|Categories: Market Strategy Report|0 Comments

About the Author:

Mark Ungewitter is a Senior Vice President & Investment Officer at Charter Trust Company. He was formerly Director of Portfolio Management at Investors Bank and Trust in Boston, Massachusetts. He holds an M.S. from Bentley University and a B.S. from Massachusetts College of Liberal Arts. He is a member of the American Association of Professional Technical Analysts.

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