Tell me if you relate to the following scenario called Bear Trap. You trade this chart, you see that the trend is down, all indicators are pointing down, and you spot this imminent breakout to the downside and you go short, confident that the price has nowhere to go but down. BUT surprise, the price does a rapid jump contrary to your trade. But the thing is you’re so confident that the price will go down, so you increase your stop loss. And the price goes even higher.
At this point you say yourself, ok, I’ll wait until the price comes back to my entry point, I don’t need a profit, I just want to see breakeven or a small loss and I will 100% exit my position. And you guessed it, the price flies to the upside and never comes back. Have you ever felt that? this is a bear trap!
I bet you have. This is how I lost my first trading account. This is a rookie mistake, later I found out that that I entered the market during a bear trap. The bear trap pattern is a very basic setup and one of the most profitable ones if you identify them correctly. So, in this video, we’ll discuss the most important stock pattern you need to master in order for you to profit from the novice traders that enter the market at the wrong prices.
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What is a bear trap ?
So, a bear trap appears when a stock is apparently going down in price, only to have the stock reverse and shoot higher. Some traders or investors might want to short the market, either because they feel that the market is overvalued, or because they feel that a correction of the trend is imminent. This counter move produces a trap and often
leads to sharp rallies.
The bear trap pattern is easy to be seen. Usually, such sharp downward moves in a bull market last for a very short time, and any bearish traders shorting the market after
the sharp sell-off are caught at the bottom of the move. You will want a recent range to be broken to the downside with preferably high volume.
The stock will need to get back above the breakout point within the next candlestick. Also, the stock should have a decent price range. A wide price range is critical, because will increases the odds that the stock will have room to move. You might wonder why a bear trap works and produces big moves to the upside.
Why a bear trap works and produces big moves to the upside?
Very simple, a first wave of buying will occur when the most recent swing high is exceeded, because of the number of traders who have their stops slightly above the most recent swing high. Another wave of buying pressure comes into play once other market participants realize that there are a lot of traders trapped at
the bottom of the move. And the price flies to the upside. In order to be successful in profiting from bear traps, you need 2 things.
How to profit from a bear trap?
First, you want to avoid bear traps and second you want to join the upside movement once the bear trap was confirmed. You will encounter many bear traps during your trading day. As i said earlier, the key is not to fall into one.
The trading reality is that is impossible to avoid every bear trap, but there are several clues you can lookout for in order to avoid these losing trades.
How to avoid loosing money in bear traps?
The first one is the volume. If the market changes direction and the volume is low, it might be a bear trap. Pay attention to this chart. We are in a bullish trend. Suddenly, the trend line is broken and the price begins to decrease. At the same time, volume is relatively low, which is a sign that the reversal is suspect.
After the break in trend, the price rallies back up to the recent swing and later, we noticed another break, giving the impression that the resistance area is too strong to be broken. However, the break happens during lower volumes, like the previous breakout.
We have 2 suspicious bearish breakouts. A lot of novice traders shorted the market in at least one of those 2 points. But the price continued to go higher and higher and if you had shorted the market, you would have gotten yourself into a bear trap!
The second clue that you might be in a bear trap is the divergence. If you trade with indicators which give you divergence signals, then you can easily spot bear traps. If the price breaks downwards, but the indicators shows for a bullish undertone, then you should suspect the bearish move is likely a trap.
In this example, we have a trading range and a breakout. But at the same time we have a divergence between the price and the oscillator, the price is making lower lows, while at the same time the RSI is clearly moving upwards.
Despite the bearish breakout we have a bullish divergence between the price and the indicator. This is a sign that a short position would not be a good move in this case.
Now, the third clue is the price action, through bullish candlestick formation. Most bullish reversal patterns require bullish confirmation. In other words, they must be followed by an upside price move which can be followed by high trading volume, as I previously said. So, look mainly for hammers and bullish engulfing patterns during these moves.
This is another example of a bear trap, which could be easily recognized with simple price action techniques. Despite the price broke the support, we noticed a hammer. This is a famous reversal candle pattern, which signals an upcoming price increase. But, despite all that, you will sometimes get trapped in a bear trap.
If you enter a bear trap and you have an active stop loss order, never increase your stop loss hoping for something good to happen. In some cases it might happen, but it only takes one bad trade to wipe out a large part of your account. So, you learned to detect a bear trap and hopefully you are not trapped in it.
How do you trade a bear trap?
Here’s how it works You identify a move coming into support, but in an uptrend. So look for the price to make higher highs and higher lows on higher timeframes and search for periods of corrections You look for a breakout below support (to trap the novice breakout traders) You look for a strong bullish close above resistance
And finally use, the 50 simple moving average as the final confirmation that the bears are trapped and the long trades are on the cards.
So, in short we want the price to close above the 50sma, after a clear breakout to the downside and all of the conditions must happen in an uptrend.
Why? Because you want to be a trend follower and take only high probability trades, in the direction the trend. Here is an Apple chart, with an obvious bear trap pattern. We are in an uptrend and the market opened with a gap down. The volume was significantly lower compared to the previous up swings and the price retraced to the breakout level.
As the price closed and consolidated above the 50SMA, this was a good time to buy the stock, in the direction of the main trend, and with a lot of trapped trades below us. Observe how the volume increased once again after the upward trend was resumed. How do i know that a lot of traders were trapped there?
Take a closer look at what happened when the price reached the exact point. Boom, the market reversed right in that point. Because trapped traders closed their short positions and new buy orders entered the market.
Let’s consider another example.
We have an uptrend, with the price consolidating in a range. The price broke the support and immediately retraced within the consolidation area. At this point, you only need the price to close above the 50 SMA and go long. The price took off, leaving the traders trapped with short positions below the 50sma.
And another example here.
Observe the breakout area below the consolidation area and below the 50SMA, followed by a retrace above the SMA. You don’t even have to enter in the same day when the bear trap occurs. You just have to acknowledge the trap and enter at the best price around the 50SMA. The same pattern in this example. Higher highs and higher lows and the price made a breakout.
In real time, you wait for the clues to see if the price has some intentions to go back up. You already have just one scenario in your
head, to go long, so even if this breakout is real, you don’t trade it, because is against the main trend.
So you wait for the price action to confirm or invalidate our scenario. The wick on this candle is the first clue that the market has upward plans. Once the price closed above the 50sma, we have the uptrend on our side and a lot of traders trapped on the short side eager to get of their positions.
Pay attention that right at this point, after a short pullback, the price immediately bounced and rallied upward. That’s because some traders trapped at the false breakout managed to close their short positions and at the same time, adding momentum to our long positions.
If you enjoy this type of content, make sure you subscribe, click the notifications bell and leave us a like to show your support. Until next time. – Reza Abbaszadeh