Thursday, October 16, 2008

Primer on Point and Figure Charting

Your stock went up $1.00 on Monday and continued down $.63 on Tuesday. It went back up $1.40 on Wednesday while falling down $.30 on Thursday. When you take a look at the intraday charts you see something frustrating and erratic. No price at which to sell is clear. If only there were a method to eliminate some of the noise perhaps the stock trend would be somewhat clearer. For this, many turn to point and figure charting, because it aids in reducing noise and elucidating market tendencies.

If you have seen charts with rows of X's and O's, then you have seen point and figure charts. Their beauty lies in their simplicity. The O's represent supply and the X's represent demand. Whichever resides in the row furthest to the right has control of the marketplace at the moment. When supply outpaces demand, price falls. When demand outpaces supply prices rise.

In order to make the concept of supply and demand somewhat clearer, let's think of it in terms of something less abstract than stocks and currency. Try thinking of supply and demand in terms of diamonds. Despite what businessmen in the diamond industry profess, diamond scarcity arises mostly from controls placed on the size of supply. Through the use of advertisements and various other psychological tricks, demand maintains its strength. With supply low and demand high, diamonds can carry a high asking price. If marketplace supply increased substantially, then price would have to be lowered in order to liquidate the product and to prevent customers from purchasing from less expensive competitors. If supply is high, and demand is low, then price must be lowered to entice consumers to purchase. If demand is high while supply is low, then the owner can raise prices.

Similar phenomena occur in the stock market. When demand for a stock is low, demand can be increased by lowering the stocks price. That is what must be done if people want to liquidate stock while others have little desire to purchase that stock. If shareholders do not want to sell stock while others would like to purchase, then the potential buyer must raise his or her bidding price in order to tempt those who are holding onto their coveted shares.

Point and figure charting displays the interplay between these two fundemental forces of the marketplace, while at the same time not tracking relatively insignificant changes.

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