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Point and Figure Charts: Check this Out

Posted on February 5, 2009 by Adam

One of my favorite aspects of point and figure charting is the degree of precision that they give. All in all, this precision can help you to make sense of the movements in the market and make them seem less random. Today is a prime example. As you may know, I’ve been watching crude oil very carefully. Not only am I trading an oil play, but crude oil can act as a pretty good indicator of global demand, and them market tends to respond to crude in one way or another.

For the past week, crude has been pinned at the $40 level. I have been saying a break below this level would mean more downside, and quickly. But why $40? And what constitutes a significant breakdown? That is where point and figure charting comes into play.

If crude oil prints $39 exactly, then crude will have gone on a sell signal. That, combined with support on the candlestick chart, proves to be a very significant support level. Have a look at the point and figure chart.

On an pnf chart, columns of O’s indicate decreasing price, and columns of X’s indicate increasing price. To print a new X or O, the price to the right of the printed box must be reached exactly. In the case of crude oil, if the price reaches 39 exactly, then a new O will be printed in the 39 box, constituting a break of support. That is when we can expect more downside. Notice how we are currently on a buy signal. If that changes to a sell signal, you had better believe there are institutional traders watching, ready to sell if they see that break.

Notice that today crude traded down to a minimum of $39.46. That is only 49 cents away from a sell signal. Part of the reason I’m long crude here is because I know exactly how to manage my risk, and the risk is very small. The fact that crude is on a buy signal and sitting right at support points to a high probability of moving higher. The fact that I could pick it up with as little as 49 cents of risk means this is a low risk setup.

I don’t think it’s too late to get into an oil services play here if you want to ride crude higher with minimal risk. You could also buy (USO: 33.14 0.00%), the etf that tracks crude prices. Set your stop at crude hitting 39 and let it run until you want to take profits. This trade may not work out, but if it doesn’t, who cares? After all, there isn’t much at risk!

Happy trading.