The Bear Trap is a very important formation and if you haven’t heard of it before, it’s probably because you were one of those who got caught in it. This pattern describes a scenario that most of the time tempts unknowing traders with obvious signals to enter a sell trade only to then turn against them.
Order flow – what is really going on
We need to understand the order flow (how traders plan and execute their trades) to understand why and how a bear trap is created. We also have to step into the shoes of an average trader who always gets caught in these situations:
1) Price is moving in a long downtrend and traders who missed this trend are now frustrated and looking for some way to jump on the train and make at least some money.
2) Highs and lows are a popular concept and many traders use swings to plan their entry times. In our example, many looked at the downward swing and then went short when the level broke.
There are a few problems with this transaction:
People who enter briefly are chasing a very long downtrend here and enter too late
Before the breakout, volatility increased significantly and the price even broke above the moving average, signaling that the trend was likely to be changing.
We’ll learn later how to make better decisions around such swings.
3) The price moved a little lower after the breakout and short traders probably felt quite comfortable with it. They were wrong!
4) The price not only receded above the previous lows, but also a gap appeared! Let’s consider what exactly happened here:
When amateur traders who fell into a bear trap taking their short positions, they sold to professionals who bought from them with a smile on their face. However, the interest in buying from professionals was so great that all sell orders were consumed and many trades remained open. In the article on supply and demand, we learned that the market has to grow if there are more buyers (larger volume) than sellers, and that’s what happened in the growth gap.
5) Price continued its climb and trapped traders forced to exit short, meaning they had to initiate a buy trade further fueling a new uptrend.
How to avoid the bear trap?
We already know what a bear trap looks like, but how can we avoid these situations before they happen? Here are two very important tips that need to be disseminated:
1. Avoid entering a mature trend late and chasing price
Of course, it doesn’t make sense to say that you should stop trading swing points breakouts. Under the right circumstances, they can be very favorable trading opportunities.
However, you should avoid chasing a mature trend. After long periods of trend, we need to be very cautious and read the warning signals correctly.
In our previous example, we saw that just before the bearish trap hit, the price showed a strong upward impulse and even rose above the moving average. Usually, it’s not something you want to see in a mature trend as it shows buyers arriving and sellers have been unable to keep the price low.
2. Become a hunter
I am constantly looking for signs of bull and bear traps as they can be very good trading opportunities. I’m not a classic trend follower, so I’m waiting for these reversal signals to catch a new trend early on.
towards a new trend. Of course, a bear trap alone is not enough, but it is a good starting point for your price analysis. In our pro room, we also look for such traps and how to use them.
Bear trap types
Finally, I want to introduce you to one of the most common types of bear traps (the others available in the pro zone ) so that you can familiarize yourself with it and recognize it when it appears.
# 1 Double top / Double bottom
Double highs are classic patterns and reveal areas where buyers have failed to push price to new highs. Often we can see a double peak with pin bars or rejection candles. Long wicks crossing the double top show a missed breakout attempt and many people will jump into the market while the signal is still forming as it looks like a successful breakout.
Don’t get caught!
I’m sure you’ve recognized yourself while reading this article, and that’s fine. We all got caught up in such a move before. However, with the new knowledge, you should be able to see the market in a different light and become one of those who will be on the right side of the trap in the future.