What are bear traps and bull traps in crypto and how to avoid them?

Bear traps and bull traps make many investors make unwise trading decisions that affect their profits. What are bear traps and bull traps? How do you avoid falling into them? We will explain them one by one in this guide.

If you are involved in cryptocurrency trading, you must know some things to watch out for. The cryptocurrency market is complex and interesting, and for any trader, there are certain traps that you should avoid to make the most of your investment. Some of these are bear traps and bull traps.

Bear traps and bull traps exist in both traditional asset markets and cryptocurrency markets. These traps make many investors make unwise trading decisions that affect their bottom line. But what are bear traps and bull traps? How do you avoid falling into them? We will explain them one by one in this guide.

Bear Traps in Trading

A bear trap in the trading world refers to a situation where the price of an asset initially seems to be trending upward. Then, there is a partial drop in the value of the asset and it seems to be about to fall, that is, entering a bear market. When traders see these market signs, they react in time, which usually involves opening a short position.

A short position involves a trader borrowing shares of an asset from a broker using a margin account. The idea is to sell these instruments and then re-buy them when the price drops and make a profit. Bear traders believe that an asset or the entire market is about to fall and try to profit from it. This involves using strategies such as short positions to achieve this. But as we said, a bear trap is just a trap. The fall does not last and before long, the price of the asset rises again after the bear traders have been "tricked" into shorting.

Bear traps exist in almost every asset market and traders invest a lot of time and effort to avoid falling victim to bear traps.

Bull Trap Explanation

Bull traps work similarly to bear traps, but in the opposite direction. This occurs when an asset rises in value and breaks through a certain resistance point. Often, breaking through a major resistance point can mean that an asset is about to enter a bull market and become more valuable. Therefore, many traders decide to open a long position to profit from price movements.

The idea is that if they can buy in when the price of an asset starts to rise, then they can resell it later for a profit. In this scenario, bear traders attempt to take advantage of rising asset prices.

But just like bear traps, bull traps also see an asset value reversal shortly after a critical resistance point is breached. Bear traders had hoped to resell the asset for a profit, but now find that the asset is rapidly depreciating in value.

These bull traps exist in almost every asset market and occur simultaneously for a number of reasons. It could be due to traders losing momentum after a resistance level is breached, causing many to sell the asset, or it could be due to stop-loss orders triggering further selling.

Bear Traps and Bull Traps in Crypto

As we mentioned, bear traps and bull traps exist in almost every asset market, and the cryptocurrency space is no exception. Many cryptocurrencies have experienced both, and they manifest in fairly unique ways. Take the example of altcoins within the industry that suddenly become hyped and appreciate in value within a short period of time. This is common with tokens that are tied to specific events, such as the cryptocurrency released after the death of Queen Elizabeth II. Many cryptocurrency investors may buy these tokens expecting them to continue to rise in value. However, for whatever reason, the price of the token begins to fall, and traders see that the plan has failed. This is an example of a bull trap.

A bear trap involves a cryptocurrency that seems to be falling. Perhaps it is a coin that has experienced several fluctuations, and some investors plan to buy it at a lower price and resell it for a profit. But then, the value of the coin rises, leaving them in an awkward position. Due to the volatility of the cryptocurrency market, both bull traps and bear traps are fairly common and can be caused by industry trends, whale activity, media coverage of the asset, etc.

The Role of Psychology in Bear Traps and Bull Traps

One important thing about bull traps and bear traps is that they are both triggered by psychological factors. First, many investors have a one-way attitude towards the market. This means that they think of themselves as either a bull trader or a bear trader and train themselves to operate in only one of these conditions. Therefore, they are more likely to fall into a bear trap or a bull trap because they only chase one market trend and are not flexible enough to react to any changes the market throws at them.

In addition, there is the classic fear of missing out (FOMO) that makes investors panic at the thought of not being able to profit from market trends immediately. Therefore, instead of waiting and properly observing the progress of the market, they act immediately and fall into the trap.

Crypto Bear Traps and Bull Traps: Examples

We have already established that bull and bear traps are common in the cryptocurrency industry and there are several examples. For example, Sol, the native token of the Solana ecosystem. In the first week of June 2023, the token fell by about 42% and seemed to be in free fall. The token then began to rebound the following week, hitting a key resistance point around $15. All expectations that the token would continue to fall were shattered, and traders who opened short positions were disappointed.

Then there is Bitcoin (BTC), which has experienced multiple bull traps over the years. In April and August 2021, the price of Bitcoin fell after a period of continuous increases. In April of the same year, Bitcoin broke through the $54,000 mark, but soon after, it fell by more than 17%.

Identify and Avoid Bear Traps and Bull Traps

Now that you understand what bull traps and bear traps are, you should know how to spot and avoid them for the best trading experience.

In order to spot and avoid bear traps, consider the following points:

Look at key indicators. When considering opening a short position for an asset, look at its Fibonacci levels and relative strength index (RSI) divergences. Assets that do not close below key Fibonacci levels could be a sign of a bear trap.

Consider key resistance levels. One of the clear signs of a bear trap is when an asset's price reverses after a key resistance level. If the asset in question has just hit a new all-time high or crossed a major milestone, take note if it appears to be moving in the opposite direction.

Low volume. Always look at the current volume of an asset. If volume is low, it's best to be wary.

To spot and avoid bull traps, consider the following:

Key indicators. Just like with bear traps, look at indicators like RSI divergences. A high RSI indicates strong buying pressure, which means the current price increase may not last.

Volume. As in the case of a bear trap, low volume could mean that the price move is due to the activity of a few whales and is unsustainable.

Resistance levels. Another sign of a bull trap is when an asset initially has strong momentum but is unable to break through certain resistance levels. This is usually a sign that a bull trap is forming.

Conclusion

Trading any asset, especially one as complex as cryptocurrencies, is bound to encounter some obstacles. The ones to watch out for are bear traps and bull traps, which can put any investor in an awkward position. Bear traps and bull traps can make investors think they know where the market is going and act accordingly, but they end up being deceived.

It is important for any investor to study the market and learn how to identify bear traps and bull traps so that you are not caught off guard if they occur.