Point and figure trading in many ways is similar to the support and resistance breakout trading on bar or candlestick charts. The main difference is the look and functionality of the price charts themselves!
Bar charts and candlestick charts show the high low open and close price for a given period. Point and figure charts represent price in a radically different manner from the more familiar bar and candlestick charts. Many forex charting platforms provide the option of point and figure charts.
Point and figure charts do not show any timeframe. This may confuse you in the beginning. Point and figure charts are a pure price action play because these charts generally exclude all other elements like time, volume and open/close other than price. Point and figure trading is based exclusively on price action.
Technical analysis is the study of price action. Technical analysis is used to predict or confirm an uptrend or downtrend or a consolidation in the market. Point and figure charts represent clear evidence of such important technical characteristics like trend, support/resistance and breakouts. Thus a point and figure chart focuses on the behavior of price action which is the most important factor from the technical analysis point of view.
If you look at the point and figure chart you will see many columns with Xs and Os marked in them. How do you figure out what does this means? A point and figure chart has got Xs and Os. A point and figure chart is constructed with a column of boxes alternately labeled with Xs and Os. An X column means that the price has risen in that column. Conversely, an O column means that the price has declined in that column.
A new column is created going in the opposite direction when a reversal occurs on any column. Only when price moves a significant amount regardless of time will an existing column grow or a new column is created. So there is no time, volume, opens and close on point and figure charts.
How is a point and figure chart constructed? It depends on two variables. Two variables can alter the way the point and figure charts look and act. The first variable is the box size. This is the minimum amount that the price is supposed to move before a new box in the existing column is created.
X is equal to fixed price increase. Each X denotes a rising trend. For example, if a column of Xs has 10 boxes, price would need to move an additional amount equal to the preset box size before another X would be added to the top of the column.
You can use the charting software to do the actual drawing. However, you should understand the concept behind the point and figure chart. Suppose, you are using the point and figure chart. You set the box size on the point and figure chart to be equal to 10 pips on the point and figure charting software.
X column and O column. In an X column, the price would have to move another 10 pips above each X box before another X could be added on top of that X. On the other hand, in an O column, price would have to move 10 pips lower than the each box in O column to add another O box on the bottom of the column.
How do you decide to add another column to the point and figure chart? The second important variable is the reversal amount. This is the amount of pips the price needs to reverse before a new column is created.