What is a Bull Trap in Trading and How to Avoid It

Football fans are surely familiar with the flea flicker and Statue of Liberty plays. Markets have their own versions of ruses (what football announcers might call “trickeration”). The rally continues as buyers become less fearful and instead, begin to experience fear of missing out . This creates a burst of buying that continues to drive up prices. However, using different technical tools to confirm trade entries will help you reduce losses. A breakout with low volume and also an indecisive candle could be a false breakout. Price breaks the support trend line to suggest a continuation to the downtrend. In other words, any push above the resistance should be taken with a grain of salt as it could lead to a bull trap. Ideally, you should only do this in markets with high liquidity.

However, rather than bounce back up, it ranged for some time, received significant rejections to the upper side, then melted rapidly. The buyers who thought that the trend would continue rallying upwards have their stop losses activated. As for those with https://www.beaxy.com/faq/authy-authenticator/ wider stops, or those without any stops, they remain trapped in a trend that has turned against them. The Definitive Guide to Point and Figure, by Jeremy du Plessis, lives up to its title and is required reading for the Chartered Market Technician exam.

Bull Traps

To exit a long position requires selling, so this selling pressure will cause the price to fall even further. A long sell-off where traders miss profit opportunities and become greedy in search of more profits. Please ensure you understand how this product works and whether you can afford to take the high risk of losing money. A Stop-Loss order should be placed slightly above the previous support level. Also, the market was exhibiting range contraction , which is the opposite of a healthy rally. Lastly, RSI could not break above 50 , suggesting this rally could be a false recovery. First, Ethereum did not break the downtrend, as the price was below the trend line . Secondly, ETHUSD couldn’t even break a horizontal resistance line .

• Most are forced out of their long trades, which means they have to buy, which accelerates the rally.
• Bull traps refer to fake upside breakouts after which the price makes a sudden and unexpected reversal, breaking below a well-established support level.
• Bullish flag formations are found in stocks with strong uptrends and are considered good continuation patterns.
• These traps are cryptocurrency market manipulations by traders who own large amounts of cryptocurrency.
• Bear traps can be intentionally created by institutions that push prices down.

Rather than continuing to move higher, the equity reverses in price and falls below its prior level of support. A bull trap can also be fueled by short-sellers who are forced to buy back their shares which can create a short squeeze and drive the price up artificially. Bull traps are characterised by a trader or investor buying an asset as it breaks through a historically high level of resistance. Many breakouts above resistance are followed by increasingly higher highs, but a bull trap is characterised by a bearish reversal soon after the breakout.

What Is a Bull Trap in Trading?

Risk capital is money that can be lost without jeopardizing ones’ financial security or life style. Only risk capital should be used for trading and only those with sufficient risk capital should consider trading. Past performance is not necessarily indicative of future results. Now when you learned how to find the bull traps, we would like to suggest you several trading strategies.

The most effective way to do this is to buy equities when they are trading at a discounted price. In this way, they can lower the average cost they pay for shares. Buying into a bull trap will have the opposite effect and can hurt their total return. As an example, let’s say the stock of XYZ company was trading at $50 a share. However, for a variety of reasons, the stock falls to a price of $35 over the span of a few months. An informed investor may believe the sell-off has become too extreme. So when the stock begins to make a move to $35, investors rush back in believing the stock is headed back to $50. However, instead of going to $50 the stock reverses and falls below the prior support level of $30. A trader can identify a rally by using technical indicators such as oscillators, which can help to identify overbought assets – one of the key drivers behind market rallies.

Instead, the price of the asset is likely to decline as soon as these traders start to sell the asset. When you see the price advancing to the resistance level, you should wait and see what happens when it reaches it; 2. Then, place a stop loss at least 2 pips above the high of this candlestick; 4. Take profit should be placed at the previous swing low price level. Bull trap pattern typically occurs at a resistance level and is a bearish signal forming with an uptrend.

Identify major chart resistance levels and watch the chart price action when the price goes to test these chart resistance levels again. Find out how these technical patterns occur and how investors can prevent themselves from getting lured into the trap. As the price rallies, trapped short traders face huge losses on their position. Most are forced out of their long trades, which means they have to buy, which accelerates the rally. This strategy partially relates to bull traps since it’s not formed on a strong downtrend but a temporary price decline. Apply the indicator on the price chart and see if the volume is high on the resistance breakout. If the volume is low, there are risks of the trend reversal. If the price moves horizontally within an uptrend, the uptrend will end soon. When the price breaks higher than the horizontal channel’s upper line, stay away from the market to avoid a bull trap. Read more about charles schwab address for wires here. It can be challenging to wait patiently for some of these indicators to flash positive signals.

The stop loss order automatically closes a losing trade when the price reaches a predetermined point. It is designed to limit your loss when an unfavorable event occurs in the market. Many traders consider the hack and retest method to be a reliable trading method. However, you must understand how support and resistance work to use this method effectively. These traps are cryptocurrency market manipulations by traders who own large amounts of cryptocurrency.

Therefore, it’s better to have a mental stop-loss and use it when you found out that the trend is not bullish anymore and the price is going to fall soon. Using a tight stop-loss helps you to prevent big capital loss in breakout trading. You should put a stop-loss after opening your long position or have a mental stop-loss to use when it’s needed. These chart patterns, and more, are covered in our guide to the 11 most essential stock chart patterns. Wait for the price to move above the resistance level or swing high.

Notice that this support break occurred with just one box (one O below the prior two O-Columns). The breakdown did not last long as the stock reversed higher to forge a Bear Trap. However, the Bear Trap did not last long either as the stock turned back down and broke below its prior low. The combination of a Triple Bottom Breakdown and Double Bottom Breakdown forged a Bearish Catapult. In particular, a Bull Trap is a Multiple Top Breakout that reverses after exceeding the prior highs by one box. A Bear Trap is a Multiple Bottom Breakdown that reverses after exceeding the prior lows by one box. Bull and Bear Traps provide quick indications of a signal failure, but chartists should be careful not to get caught in a catapult. Actually, the bull trap happens exactly in these situations.