Bull Trap
Candlefocus EditorThe term “bull trap” occurs when there is a rally in price for a security but the buyers fail to sustain or support the price at a higher level known as the breakout level. This happens because there are no other buyers joining the rally. This type of false signal can give traders the impression that the price of the stock is rising and hence a buy signal is given. However, the lack of additional buyers following the initial rise leads the price to fall back to the original level.
Traders who act on this perceived signal might enter a long position, or buy the security expecting that the price will continue to rise. Once the trap has been sprung, these traders are left with a financial loss because the price has fallen back to the original breakout level. Traders may also use technical analysis tools, such as chart patterns and candlesticks, to help identify potential setups and determine whether a bull trap could be forming.
There are several techniques that traders can use to avoid being caught in a bull trap. One important step is to wait for confirmation from other technical indicators or indications that the price is actually continuing to climb. If the price starts to fall after a breakout, traders can also look for patterns or divergences that could signal a bearish reversal and exit the position before any losses occur.
Having the knowledge to recognize these false signals can be beneficial to any trader. Bull traps can be frustrating, but they can be avoided by careful analysis and attention to the details of the market. By understanding these traps and using the appropriate risk management tools, traders can gain an upper hand in the markets and become much more successful in their trading.