Dorsey Wright Reference Manual

About the Company

Dorsey, Wright & Associates (DWA) is an independent and privately owned registered investment advisory firm founded in 1987 whose business includes two areas -- investment research services for numerous broker-dealers and large institutions around the world, and professional management of equity portfolios for .

The two principals of the firm, Thomas J. Dorsey and Watson H. Wright, have extensive experience in the equity markets, particularly in the field of risk management. Combined, Mr. Dorsey and Mr. Wright have over 45 years of experience in the equity and options markets. Tom Dorsey is the author of Point & Figure Charting: The Essential Applications for Forecasting and Tracking Market Prices, Thriving As A Stockbroker in the 21st Century and Tom Dorsey’s Trading Tips: A Play Book for Market Success. As well, the second edition of Point & Figure Charting was released in the summer of 2001. Point & Figure Charting has been translated into German, Polish, two dialects of Chinese, Hindu, and Japan has just purchased the rights for translation. Tom Dorsey and Tammy DeRosier, Vice President, also appear regularly on CNBC’s “Taking Stock” Program and Bloomberg TV. Dorsey, Wright analysts are featured on several national radio shows weekly too.

Dorsey, Wright research is conducted along technical lines, adhering to the relationship between supply and demand. We believe this simple economic theory is manifested as a constant battle between these two forces for control of the equity vehicle. It is this objective, logical approach which helps reduce uncertainty in the market. The mainstay of the research at DWA is the Point & Figure methodology which was first popularized by in the late 1800’s. The Point & Figure methodology is a logical, sensible and organized way of recording the supply and demand relationship in the market, sectors, and individual . We believe our Research, coupled with your own fundamental research, can greatly increase your probability of success in the stock market.

Many sites on the Internet may provide charts of stocks but DWA is the only site that provides such a comprehensive charting site with portfolio capabilities and most importantly, the ANALYSIS that goes with the charts. Each analyst at DWA has been with the firm an average of almost 11 years. Each day the analysts put together a comprehensive report which features analysis of the markets, sectors, individual stocks, options, and prospecting. The services of DWA make investment professionals craftsman who know how to manage risk and add value for their clients.

Investment Strategy Our philosophy, the combination of with , can help stack the odds in your favor. It’s like a musician playing the piano. Restrict him to playing the piano with one hand the music he makes is going to be marginal at best. Let him play the piano with both hands, fundamentals and technicals, and he will make beautiful music. Fundamentals can help answer the question of WHAT to buy and technicals answer the question of WHEN to buy.

We use our indicators to get a measure of overall risk. Dorsey, Wright uses technical market indicators that have been in existence for over forty years to ascertain the overall risk in the market -- to determine whether offense or defense is dictated. We then analyze our broad industry sectors to determine which sector or sectors have good field . Industry sectors can move in and out of season just like produce in the supermarket. We then select individual stocks that have positive and have a good probability of outperforming the market. In other words, demand is in control.

Ascertain Market Risk > Determine Offensive Sectors > Fundamentals > Manage the Trade with the Point & Figure Chart

Why Point and Figure Charts

P&F charts are indigenous to stock market trading which give you both the immediate and term view. Formations, patterns and signals are easy to recognize and interpret, and tend to repeat themselves. Trends are readily identified and trendlines can be drawn with amazing ease. Valid targets can be established. It is the easiest kind of chart to maintain and therefore allows you to follow more stocks. It should enable the to stay on a winner while it is winning and get off a loser quickly. The method is dynamic. The fixed interval of plotting may be made to fit whatever you want to chart - stocks, bonds, commodities, or investment. It ignores the static time factor, the confusing indications, and irrelevant minor fluctuations.

Point and Figure Chart Basics The basic shows a column of X's which means the stock or index is rising. A column of O's means the stock is falling. Columns of X's and O's alternate back and forth -- they never appear in the same column. For the first action taken in a month, a number or letter is used to designate that particular month. This is how we show the time on the chart.

It takes 3 boxes to reverse from one direction to the other. For example, if a stock were trading in a column of X's with a top of 45, it would take a move to 42 to reverse this chart to a column of O's. Going in the other direction, if a stock were trading in a column of O's with a current low at 45, it would need a to 48 to reverse the stock back to a column of X's.

Units of Charting : 0 - 5 = 1/4 point per box 5 1/2 - 20 = 1/2 point per box 21 - 100 = 1 point per box 102 – 200 = 2 points per box 200 + = 4 points per box

Instructions

Given the price of security XYZ, determine the box value and write the appropriate range of prices in the left of the point and figure grid. Start the chart with the number (or letter) corresponding to the present month and place it in the box with the value equal to the previous day’s closing price. Depending on whether the stock price rises or falls during the day, add Xs or Os as required. If the price does not rise or fall the value of one or more boxes, make no chart entry.

If the last entry on the chart is an X, check the stock’s daily high. Add Xs if the stock has gone up one or more units on your grid. If the stock has gone down, look at the daily low to see if a three box reversal has occurred. If so, move over one column and down one row and enter the appropriate number of Os. Make no chart entry if the stock has not moved up enough to warrant more Xs or down enough to receive at least three Os.

If the last entry on the chart is an O, check the stock’s daily low. Add Os if the stock has gone down one or more units on your grid. If the stock has gone up, look at the daily high to see if a three box reversal has occurred. If so, move over one column and up one row and enter the appropriate number of Xs. Make no chart entry if the stock has not moved down enough to warrant more Os or up enough to receive at least three Xs.

Reference to time is made by entering the first action of each month with that month’s number in the grid. For example the first X or O in May would be replaced with a "5". The months October through December are noted by A, B, and C, respectively. It is also useful to write the year below the column in which there is an entry for January of that year.

Here are two examples of how a chart develops.

EXAMPLE I: START WITH HIGH: 30 HIGH: 29 3-4 HIGH: 30 3-4 HIGH: 31 1-2 LOW: 29 1-4 LOW: 27 LOW: 26 1-8 LOW: 29 3-8 (Move the chart (Move over one (Move over one (Move the chart up one box -- column and column and put up one box -- put an X at 30) put 3 O's in 3 X's in at put an X at 31) at 29,28 27) 28, 29, 30) 31 31 31 31 31 X 30 30 X 30 X 30 X X 30 X X 29 X 29 X 29 X O 29 X O X 29 X O X 28 X 28 X 28 X O 28 X O X 28 X O X 27 X 27 X 27 X O 27 X O 27 X O 26 X 26 X 26 X 26 X 26 X 25 25 25 25 25

EXAMPLE II: START WITH HIGH: 27 1-4 HIGH: 29 3-4 HIGH: 29 1-8 HIGH: 29 1-4 LOW: 25 7-8 LOW: 27 5-8 LOW: 26 LOW: 25 (Move the chart (Move over one (Move over one (Move the chart down one box - column and column and put down one box - put an O at 26) put 3 X's in 3 O's in at put an O at 25) at 27,28,29) 28, 27,26) 31 31 31 31 31 30 O 30 O 30 O 30 O 30 O 29 O 29 O 29 O X 29 O X 29 O X 28 O 28 O 28 O X 28 O X O 28 O X O 27 O 27 O 27 O X 27 O X O 27 O X O 26 26 O 26 O 26 O O 26 O O 25 25 25 25 25 O

Chart Patterns

There are 11 different patterns in the Point & Figure methodology. As chart develop, they will create a series of these patterns. If the series is mostly of positive patterns then demand is in control of that issue. If the series of mostly of negative patterns then supply is in control of that issue. Keep in mind with patterns that they are only one of several things we look at when evaluating any equity. For instance, when the market indicators are suggesting demand is in control of the overall market then the bullish patterns work out better than when the main market indicators are suggesting supply is in control of the overall market. Patterns are especially useful in determining entry points and logical stop loss points.

Double Top Triple Top Bullish Catapult An X (up) column exceeds An X column exceeds two Combination of triple top previous X (up) column. previous columns or buy signal followed by the levels of resistance. double top buy signal. 45 45 X 45 X X X X 40 40 X 40 X X X X X X X X X B X X X X 35 B 35 B 35 X O X X X X X X X X X O X X O X X O X O X X O X O X O X O X X O X O X X O X O X X O X O O X O O 30 30 30

Shakeout Bullish Bearish Signal Reversal Stock makes two tops, Series of lower tops Series of lower tops and then breaks a double and higher bottoms. bottoms. Quick reversal bottom. This rids the Chart breaks one way up and stock breaks out. stock of weak holders. or other. Take action No accumulation occurs. Can buy on 3 box rever- on the breakout. 5 7 columns needed. sal up. Shakeout is columns needed. completed when the triple top is broken. 45 45 45 X X X X X X X X X X X X X 40 X 40 X 40 X O X X X X X X O X X X O X O X X X O X O B X O X O X X O B O X O X X X O X O B X O X X O O X O X 35 X O O X 35 X O X O X 35 O X O X X O X X O X O X O O X X O X O X O O X X X O X O X X X O O 30 X 30 X 30

Double Bottom Triple Bottom Bearish Catapult An O (down) column An O column exceeds Combination of the triple exceeds a previous two previous columns, bottom sell signal followed O (down) column The or levels of support. by double bottom. simplest of all sell signals. 45 45 45

X X X X 40 X 40 O X O X O 40 O X O X O O X O O X O X O O X O X O X O X O O O O O O O X O O O S O X O S O O O 35 O 35 O 35 S O O O O O 30 30 30

Bearish Triangle Bullish Signal Reversal Series of lower tops Series of higher tops and and higher bottoms. bottoms. Quick reversal Chart breaks one way down and stock breaks down. or other. Take action No accumulation occurs. on the breakout. 5 7 columns needed. columns needed. 45 45 O X O X X O 40 O X O 40 X X O O X O X X O X O O X O X O X X O X O O X O X O X O X O X O O X O O X O X O O 35 O X S 35 X X O X S O O X O X O O O X O X O O X O O O X O 30 30

Trendlines

Using trendlines helps us to make buy/sell decisions. When a trendline is broken, it signals a change in the posture of the stock. The two major trendlines: the bullish support line, and the bearish resistance line, can be used to identify areas of in point and figure charts.

Bullish Support Line: When the stock has formed an apparent bottom, a bullish support line can be drawn. It should start in the box directly below the lowest O in the lowest column and move upward at a 45 degree angle.

Bearish Resistance Line: This is the reciprocal of the bullish support line. A bearish resistance line is to be drawn above the highest X in the highest column downward at a 45 degree angle. Relative Strength

Relative strength readings are incredibly important in stock selection in all kinds of markets. The relative strength calculation is simply done by dividing the price of the stock by the price of the Dow or any index you choose and then multiplying by 1000. This number can then be plotted on a point and figure chart. RS chart buy signals are given when a column of X's exceeds a previous column of X's. Sell signals are given when a column of O's exceeds a previous column of O's. Relative strength signals generally last about two years and tell the overall trend of a stock. Positive relative strength suggests the stock will outperform the market while negative relative strength suggests the stock will underperform the market. It's also important to watch for reversals for term guidance.

Say for instance XYZ was at $80 and the Dow was at 2,500. If we divided $80 by 2500 and moved the decimal we would get 32. This number 32 can be plotted just as if it was an $32 stock. Let's say the following week the stock falls to $72 and the Dow dropped to 2000. We now divide $72 by 2000 and get 36. In this case the stock dropped, the Dow dropped but the relative strength chart went up. This tells us that the stock is doing better than the Dow and it is possible that the only reason it is down is that the overall market is down. This stock could be one of the first to snap back when the overall market is ready. Remember according to a University of Chicago Study 75-80% of the risk in a stock is market risk, 20-25% is stock specific risk.

Relative Strength readings are taken once a week and plotted on a Point & Figure chart. There three types of relative strength (2 for stocks, one for sectors). A stock can be measured on a relative basis versus the overall market and versus its peer group (other stocks within the same sector). Sector relative strength is a measure of that sector's strength versus the S&P 500.

Stock RS Reading Peer RS Reading Sector RS Reading (Stock Price/Dow) X 1000 (Stock Price/DWA Sector) X 100 (Index/S&P) X 100

There are 4 Combinations of Relative Strength . Best: Buy Signal and in X’s Improving: Sell Signal and in X’s Good: Buy Signal and in O’s Weakest: Sell Signal and in O’s Investors will want to pay close attention to Relative Strength as the signals last, on average, two years while column changes last several months. In sector relative strength we pay most attention to the column. Even for traders, you want to be in the strongest relative strength stocks and sectors when going long and in the weakest relative strength stocks and sector when going short. /Trading Bands

At Dorsey, Wright & Associates we use measures of momentum and overbought/oversold readings to aid in our interpretation of a stock. The measures are computed by our database, and can be accessed by clients.

Momentum: Following weekly momentum is very helpful when timing trades. A positive weekly momentum suggests higher prices and negative momentum suggests lower prices. Weekly momentum is a shorter term timing tool as changes to positive or negative weekly momentum last seven weeks on average. We can calculate the number at which momentum will change to positive or negative. If the price of a stock is below the price that stock needs to hit in order to change its momentum, then the change number is where the momentum will turn positive. If the price of the stock is above the change number then this is where the weekly momentum will turn negative. See next page for a sample momentum table.

XYZ Corp. Weekly Momentum Table

Date Bullish Bearish Last Cross ======04/21/97 0.00000 -0.05268 19.500 22.987 04/14/97 0.00000 -0.03488 20.750 23.029 04/07/97 0.00000 -0.02531 20.250 21.867 03/31/97 0.00000 -0.00998 21.375 22.019 03/24/97 0.00000 -0.01340 21.875 22.755 03/17/97 0.00000 -0.04961 21.875 25.336 03/10/97 0.00000 -0.06116 21.875 26.131 03/03/97 0.00000 -0.08037 21.000 26.567 02/24/97 0.00000 -0.07396 21.000 25.983 02/17/97 0.00000 -0.01555 20.625 21.567--- Weekly momentum 02/10/97 0.06603 0.00000 22.500 18.777 turns negative here 02/03/97 0.09317 0.00000 22.375 17.270 as the numbers are 01/27/97 0.12540 0.00000 22.500 15.847 under the bearish 01/20/97 0.12228 0.00000 23.000 16.508 column 01/13/97 0.10112 0.00000 20.687 15.564 01/06/97 0.09289 0.00000 19.000 14.462 12/30/96 0.11479 0.00000 18.625 13.247 12/23/96 0.21601 0.00000 17.750 9.013 12/16/96 0.25133 0.00000 18.375 8.346 12/09/96 0.23051 0.00000 17.625 8.265 12/02/96 0.26702 0.00000 17.250 6.915 11/25/96 0.21550 0.00000 18.000 9.102 11/18/96 0.07435 0.00000 14.750 11.308 11/11/96 0.01208 0.00000 14.375 13.746 --- As long as the 11/04/96 0.00000 -0.04797 15.500 18.400 numbers are under 10/28/96 0.00000 -0.17586 13.750 27.880 the bullish column 10/21/96 0.00000 -0.20112 14.000 31.266 we consider the 10/14/96 0.00000 -0.18489 15.500 30.971 weekly momentum 10/07/96 0.00000 -0.18102 16.750 32.507 positive. We watch 09/30/96 0.00000 -0.16417 16.500 31.472 for the first week 09/23/96 0.00000 -0.06613 26.000 32.195 the data flips from 09/16/96 0.00000 -0.04874 29.375 34.006 one column to the 09/09/96 0.00000 -0.07187 27.500 34.358 other to signal a 09/02/96 0.00000 -0.04422 28.250 32.329 change in momentum 08/26/96 0.00000 -0.00517 29.750 30.211 Trading Bands: This is the basic bell curve, giving a picture of whether a stock is overbought or oversold based on a 10 week . 100% overbought is three standard deviations above normal. 100% oversold is three standard deviations below normal. If the stock is 100% overbought, it suggests the stock will correct to normal on the curve. If the stock is 100% oversold, it suggests the stock will bounce to normal. The disadvantage to trading bands is the tails can go out to infinity.

* * * * * * | * * | * * | * * | * * | * * | * 100% Oversold Normal 100% Overbought * * * * | * * * * ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~

NYSE Bullish Percent

This is our major market indicator which tells us whether to be on the offense or defense. It is calculated by dividing the number of NYSE stocks trading on point and figure buy signals by the total listed on the Exchange. The percent of stocks on buy signals in is then plotted on a grid from 0% to 100%, where each box equals 2%. Levels above 70% are generally considered overbought, and below 30% are considered oversold. The best buy signals come when the NYSE Bullish Percent goes below 30% and then reverses up (must reverse 6%). The best sell signals come when the indicator moves above 70% and then reverses below 70%. There are six degrees of risk associated with this indicator but the most important concept to keep in mind is field position and what team is on the field. When the NYSE Bullish Percent is in X's, the offensive team is on the field and wealth accumulation strategies are the focus. Conversely, when the NYSE Bullish Percent is in O's, the defensive team is on the field and wealth preservation strategies are the focus.

Six Degrees of Risk:

Bull Alert: Characterized by the bullish percent falling to 30% or below and then reversing up into a column of X's. The traffic light turns green.

Bull Confirmed: The strongest of market conditions. Characterized by a column of X's exceeding a previous column of X's. The traffic light is green. Bull Correction: The bull market is taking a breather though it should resume shortly. The traffic light is yellow.

Bear Alert: Characterized by a bullish percent falling from above 70% to below. Profits should be taken or positions hedged. The traffic light has turned red.

Bear Confirmed: The weakest of market conditions. Characterized by a column of O's exceeding a previous column of O's. The traffic light is red.

Bear Correction: The bear market is taking a breather. Trading rallies could be seen but the bear market will likely resume. The traffic light is flashing red -- look both ways carefully before crossing the intersection.

Bullish Percents are kept on other markets like the Nasdaq Composite, the Amex, the Optionable Universe, the Nasdaq 100, etc. The main bullish percents used for evaluation though are the NYSE and the Nasdaq or OTC Bullish Percent. This is the first step in the game plan - determining what team is on the field and based upon field position, what types of plays to run.

Sector Bullish Percents

Using the same concept as the NYSE Bullish Percent, we keep bullish percent charts of each of 41 industry groups and the Dow Jones Broad Sectors. The percent of stocks on buy signals in each sector is plotted on a grid from 0% to 100%. As with the NYSE bullish percent, the best buy signals come when a sector goes below 30% and then reverses up. The best sell signals come when a sector goes above 70% and then reverses below 70%. The same six signals (or risk levels) apply.

This is the second step of the game plan - determining what sectors have the offensive team on the field. The ideal situation for a sector is as follows:

Strong Relative Strength Bullish Percent chart in X's Bullish Percent chart about 50% or lower

Short Term Indicators

NYSE (OTC) Percent of Stocks Above Their 10 Week Moving Average: Charted on the same type of grid as the bullish percents. Buy signals are given when the index goes below 30% and reverses up, as well as when a column of Xs exceeds a previous column of Xs. Sell signals are given when the index goes above 70% and reverses down, as well as when a column of Os exceeds a previous column of Os.

NYSE (OTC) High-Low Index: This index measures the number of new highs made on the NYSE divided by the number of new highs plus new lows. This number is then recorded on a ten day moving average. The ten day moving average is then plotted on a grid from 0% to 100%. We look at the Percent of Stocks Above their 10 Week Moving Average and the NYSE High-Low Index in conjunction with one another. Buy signals are given when the index goes below 30% and reverses up, as well as when a column of Xs exceeds a previous column of Xs. Sell signals are given when the index goes above 70% and reverses down, as well as when a column of Os exceeds a previous column of Os.

When looking at the short term indicators, we like to see both moving in the same direction to make a short term evaluation of the market. These two short term indicators are also applied to the Nasdaq or OTC market.

Bond Indicators

There are several different charts we use to evaluated the fix income market. They include the following, the DWA Bond Average (DWBOND), Dow Jones Corporate Bond Index (DJCORP), Treasury Thirty, Ten and Five Year Indices, as well as the futures.

The DWA Bond Average used to be the Dow Jones 20 Bond Average until they discontinued it in April 2002. We have updated the index and are maintaining the average under the symbol DWBOND. This index is comprised of 20 long term bonds. This chart remains our primary bond indicator. The signals given are typically long term and in the past have been very accurate. This average is plotted on a point and figure chart with a box size of .20. The average moves slow and does not often give signals, but when they occur, we pay attention. A sell signal, which is given when a column of Os exceeds a previous column of Os, suggests that rates are about to rise. The opposite holds for buy signals.

The Dow Jones Corporate Bond Index (DJCORP) incorporates a total of 96 investment grade, non-callable bonds across the maturity spectrum. As well, it draws issues from the Industrial, Financial and Utility/Telecom sectors. The primary differences between this index and the DWBOND are the equal representations between the sectors and maturities. The DWA 20 Bond index is comprised mostly of long-term bonds and would not benefit from strength seen in shorter maturities or a steepening yield curve. For example, if the yield curve were to steepen in a way that yields on the 10 yr.+ issues rose but 5 to2 yr remained constant the DWBOND index would underperform because the maturities of its components are mostly long term. By evaluating the .25 point charts of the 5yr (FVX), 10yr (TNX) and 30 yr (TYX) yield indices we can get an indication of the how the different maturities are likely to move.

For More Information... For a more detailed analysis of these topics, please read Tom Dorsey's book, "Point & Figure Charting, 2nd Edition" as well as completing the six lesson free Point & Figure University: If you have additional questions, please call Dorsey, Wright & Associates, Inc. at (804) 320-8511.

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