Bull trap - What is it?
- Ranjeet M CFTe
- May 21, 2020
- 1 min read
It occurs when prices exceed a previous peak before falling below a recent low. This reversal of price movement is also referred to as a false breakout or a whipsaw in prices, sometimes near the end of a major uptrend.
A bull trap in 3 steps and how to avoid it:
1. A prerequisite for any reversal is an existing trend. While most indices are currently trading below their all-time high, some individual stocks are on an uptrend and trading near their all-time high.
2. The new high or false breakout occur with lower volumes. Volumes increase as prices fall.
3. The pattern is completed when prices fall below an intermediate low. This usually indicates that the trend is changing.
Avoid it by incorporating filters. Filters can vary for different stocks. For example: Consider an entry into the stock after 2 to 3% criteria after the breakout in prices. An alternative filter is to wait 2 to 3 days after the breakout to observe the price volume action.
Illustration: Chart of Novo Nordisk from Dec 2019 to March 2020.
