What is a P&F Long Tail Down?
The Point and Figure Long Tail Down was perhaps the riskiest technique proposed by Chartcraft back in the 1960s.
This P&F charting setup involves buying the 3 box reversal following 20 straight box fills in-a-row to the downside. If a stock is making new record lows the stock should be disregarded as that would carry too much risk. Catching a falling a knife is one of the earliest errors all of use make when starting out as a stock trader.
Therefore, the P&F Long Tail Down certainly has an element of stock market bottom fishing about it. However, there are a few other technical requirements that can add confidence, as explained below.
How to Trade a Long Tail Down?
Entry is on the first 3 box reversal up following the overextended column of Os, at least twenty of them, based on the Chartcraft box size scale. The 3 box reversal needs to occur in and around a long-term support shelf. If the reversal occurred in thin air, then it is likely not the bottom (catching a falling knife hurts!).
Attention should also be paid to the Point and Figure relative chart. The relative chart will probably be bearish but if it too is around a potential long-term support level, perhaps basing, then the Long Tail Down on the price chart has a greater chance of success.
Finally and perhaps most importantly, sentiment towards the stock should be assessed. The extended decline would have been caused by bad news. Therefore when considering buying a Long Tail Down always ask yourself is the bad news widely known? Is it fully priced in to the market? With modern fast news-flow this can happen almost instantaneously. When every trader who wanted to sell on the bad news has commited, a vacuum forms and the price invariably snaps back aggressively.
Failure Potential of the Long Tail Down?
Failure is more likely if the price is yet to visit a major level of support or long-term trendline. Avoid stock market bottom fishing! Patiently wait for a support visit and if no test materializes then move onto another chart.
Bear in mind that the P&F Long Tail Down is a risky set-up and therefore position sizes should be smaller than normal.
Where to place a stop-loss?
Aim to position a stop-loss one box beneath the prior column of Os. That should also coincide to just under the point where the news was at its most severe and awful.
Mental stops are also an idea given the volatile nature of bottom forming following a protracted, and severe, sell-off. Physical stops have a tendency to be taken out by the briefest of price spikes.
How to determine a price target from a Long Tail Down?
P&F vertical and horizontal counts are not very effective with this signal.
Aim for retracements of the prior column of Os, such as 50% initially. When that level is met, trail the stop-loss higher. Then identify major resistance levels higher up the chart to chalk up subsequent upside target levels.
Long Tail Down Explained by Example
The danger of trying to catch a falling knife
The oil services industry has underperformed the market severely over the past several years.
The P&F chart reveals October through December 2018 saw twenty plus box fills in-a-row to the downside. However, this is a Long Tail Down case study that should not have been followed since the overextended column of Os pulled the price to a record low.
]No major support shelf was tested and to have bought the stock would have been nothing more than bottom fishing, catching a falling knife!
Prices that fall into major support levels and reverse certainly have a greater probability of success. However, caution is still needed, perhaps via smaller positions sizes.