What’s a Bear Trap in Trading?

The trading market is a large and wild space that can be confusing, especially for beginners. If you’re not cautious enough, you might catch yourself trading dangerously. In trading, your most valuable defense is information and the ability to use them to your advantage. Not being able to identify risks and traps can lead to you losing your money. One of these traps is the bear trap.

What is a bear trap? Considered the opposite of the bull trap, a bear trap or a whipsaw pattern is a situation or phenomenon in the financial market when the stocks go down and keep on going down, drawing in many traders who expect it to continue its downward movement. The trap happens when the stocks suddenly reverse and shoot higher.

How Does It Work?

When the price of the stocks rapidly declines, it attracts many traders. However, these traders believe such a drop in the price will continue, so new investors might want to get rid of the stocks as fast as possible to avoid further losses.

Bear Trap

Institutions can take advantage of this to increase the demand for their stocks and get their prices to rise. They make the price go lower first to paint a bearish market that puts selling pressure on inexperienced traders. But this is only temporary, and everything turns around, the price will suddenly go higher since the demand for the stocks also increased.

Why Does It Happen?

There are a few reasons why bear traps occur. Some of them are:

  • Bears cannot pull the prices further down
  • Occurrence of an unexpected positive event
  • Existing strong uptrends in the market, producing higher risks of a bear trap
  • A long downtrend in the market, since the flow and direction in the market are constantly changing, a long downtrend is always unlikely to continue

Indicators of a Bear Trap

The chances of you encountering a bear trap once or more in the market are high. Not knowing how to handle a bear trap will cause you significant losses in your trading career. One good way to prevent it from happening is to know and recognize a bear trap before it happens.

Here are some of the best indicators.

Volume Indicator

The volume is one of the best tools for indicating and signaling a bear trap. It shows how strong the traders and market participants are. Low volumes commonly represent a bear trap since bears lack the strength to pull prices down.

Divergence Indicator

If you use indicators when trading, you can get divergence signals. With signals or indicators for divergence, you can easily spot a bear trap. Divergence is another market situation where the indicator and the price are in different directions. Using this to your advantage, you need to check if these two are moving in the same direction. If they’re not, there is a divergence, and there is a high chance of a bear trap occurring.

Fibonacci Levels

Fibonacci levels are excellent indicators of reversals of prices in the market. Since Fibo ratios are essential in identifying trend reversals, they are suitable in indicating bear traps. If the price or trend doesn’t break any Fibonacci level, there is a high chance of a bear trap.

Avoiding Bear Traps

The best way to not get caught in bear traps and lose your money is to avoid them. If a bear trap occurs when you’re in the market, you can encounter many adverse effects.

Here are some ways you can do to avoid and prevent yourself from falling into a bear trap:

  • Check the length of the downtrend. Since a bear trap occurs only in a downtrend, it’s essential to observe how long the prices have been moving downward. Don’t enter the market when a downtrend occurs or exists. Only enter after the prices turn around.
  • Find out the volumes. Since they reflect the strength of the bear, doing this can help you understand if the downtrend is strong enough to continue its direction. If an indicator doesn’t show any increase in value, the chances of bears pulling the price further down are low. Don’t enter the market yet.
  • Utilize candlestick patterns. A reversal candlestick is a good way to avoid bear traps. If the market forms this candlestick pattern after the downtrend, there is no chance of this trend staying or occurring for long.

Utilizing Bear Traps

Aside from being a risk, you can trade bear traps to gain profit instead. Since you’ve learned how bear traps work and how institutions utilize them, you can invest and trade alongside. What you will need is just an excellent trading strategy to follow.

Bear traps give you more risks than profits. Getting caught and falling into one and not immediately noticing it can cause you to lose your money instead of gaining more. It’s best to learn how to recognize signals of a bear trap and more other ways to avoid them so you won’t get caught in the sudden excitement of a downtrend in the market.

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