If you are caught in a bull trap in forex trading, then it is a very unfortunate trading situation to be in.
What mostly tends to happen in a bull trap situation is that you may have bought a breakout of a resistance level thinking that price was going to go up.
And it did go up as a matter of fact…but for only a short while.
Next thing you know, the price comes crashing down! Your stop loss is hit and you are left wondering “what happened???”
In this post, I will explain:
- what a bull trap in forex trading is,
- why a bull trap happens
- and 5 tips on how you can avoid it.
Lets get started…
What Is A Bull Trap In Trading? Definition
By definition, a bull trap is when price is temporarily spiked past a resistance level in the pretense as if the price was going to head up but then it loses it upward momentum and very soon, starts falling back down.
So all those bullish traders who bought the breakout of the resistance level are now trapped when price starts falling back down and hitting their stop losses.
What Causes A Bull Trap In Trading?
Bull traps are engineered by professional traders (big money traders) that need liquidity for their trades.
Chart Examples Of Bull Traps
Here is an example of a bull trap in XAUUSD daily chart.
A typical characteristics of bull traps you will see are price breaking resistance levels and shooting up but this is not for long…after that the price tumbles sharply back down.
Now, this chart below is the same chart above, but we are going to view it in the 1 hr timeframe.
So what I’ve done is I’ve zoomed in using the 1 hr timeframe so that you can actually see in greater detail the price action in the 1hr timeframe of how the bull trap happened:
5 Tips To Avoid Bull Traps
#1: Place a large stop loss
Placing a large stop loss can get you out of the sticky situation when a bull trap happens.
The problem though is that sometimes you just don’t know how high the price will go up before it falls back down.
#2:Trade Only In The Direction Of The Main Trend
Suppose that breakout happens and it is not in the direction of the larger trend, then do not trade it because the potential for bull trap to happen may be present when smart money traders may want to get in at that point to go with the main trend and as I’ve said above, they may engineer price to cause the bull trap for their liquidity purpose.
#3: Trade The Retracement
Lets say based on your analysis, you believe price will break that resistance level and head up.
But you also do not want to get caught with a bull trap. So what you do is you do not trade that initial breakout.
You want to see if price breaks that level and remain above that resistance level. This will confirm your analysis. (no bull trap here).
So how you enter is to wait for price to fall back down temporarily and then enter a buy order.
#4: Watch the Next 2 Candlestick After The Breakout
This is extremely important.
If you buy on the breakout of a resistance level and price shoots up. The breakout candlestick is a huge long green very bullish candlesticks and you are in profit and you start to think that “life is good”.
But then the next 1 or 2 candlestick show signs of decreasing bullish momentum, then that’s an early warning sign.
When you see these “warning” signs, you need to make a decision to:
- take all your profits off the table
- or move stop loss to trail stop your buy trade and lock some profits just in case price moves down (due to a bull trap)
- or take some profits of the table and move stop loss to breakeven or move stop loss to lock in some profits
For me, when I see breakout happen on a resistance level but afterwards I see bearish candlesticks like:
- shooting star
- bearish harami
- inside bar (either bullish or bearish color)
I immediately sell at the market or if not I’d put a sell stop pending order just 2 pips under the low of the candlestick that gives me the bearish signal and wait for a breakout to happen.
My stop loss would be placed just a few pips above the high of that “bearish signal candlestick” for example, if the candlestick was a shooting star, I’d place my stop loss 2-5 pips (plus spread) just above its high.
If you trade a bull trap like that, believe me 100-300 can come very easily.
#5: The Larger The Distance Price Has Traveled, Watch Out For Bull Traps!
For me personally, If price has traveled a long way to reach a major resistance level, I tend to be really reluctant to trade (buy) the breakout of the resistance level.
My logic is this: price has moved a great deal up already (1000-2000 pips for example) which means it may not have sufficient momentum to keep going up.
When I am watching a currency pair and I see such a situation, I then look for trading setups where I can sell including bull trap trading setup.
Here’s a good example of what I am talking about:
- this is a monthly chart of EURJPY
- Notice the two resistance levels, R1 & R2?
- What happened here? Well you can say that a bull trap happened based on R1 (if you didn’t know or see R2 existed because that’s where price hit that R2 level and dropped all the way down)
Now, if you knew multi timeframe trading, and if you saw such a trade setup happening, you’d be either in the daily or the 4hr timeframe looking for sell signal.
Lets look at the daily chart to see what kind of sell signal was generated base on the EURJPY trade setup above?:
Summary About Bull Traps In Forex Trading
So there you have it.
Some simple tips I have learnt on how to trade or not to trade bull traps, what I look for, how to spot bull traps etc.
Important thing you can get from this is that price action, especially the use of candlesticks really can help you see what is “potentially” happening and you can make quick trading decisions based on that.
Remember, a bull trap is a false bullish move but it is in fact a bearish move.
Can you avoid bull traps all the time?
I wish I could but sometimes I do get caught out and that’s the way its going to be as long as forex trading still exists. So really, bull traps will happen if you like them or not.
The 5 tips I’ve shown you above are some of the techniques I use myself to avoid bull traps or being caught out by them-its about being a little bit smart about trading (or not trading) bull traps.
Hope you study them and learn and gain something from this post.
I have also written about bear traps in these articles which you may like to read as well:
- what is a bear trap in forex trading?(included 5 tips to avoid it as well)
- 3 bear trap chart patterns (you don’t know)
- bear trap trading strategy
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