A bull trap occurs when a trader purchases an asset in the expectation that its price will rise further only to witness a sharp decline after it reaches a new high.

Bull traps happen when the market is unsure or when untrue information about a specific asset is being spread.

It’s dubbed a bull “trap” because uninformed traders are led to assume that an asset that is decreasing is actually rising. This erroneous sense of security can result in significant losses.

Although they are a relatively new and fascinating investment possibility, cryptocurrencies are also very unstable. Prices can change drastically, and it is simple to get carried away by the thrill of trading. The hype, meanwhile, can develop without consideration of the dangers.

This guide offers fundamental guidance on identifying and avoiding a crypto bull trap.

What Does a Bull Trap Mean in the Crypto Market?

Bull traps, also known as “dead cat bounce,” are common in the cryptocurrency world due to their quick recoveries.

Bull traps operate in the crypto market just like they do in any other market. For instance, you might think that an altcoin’s price will grow more if it has been rising gradually over the last few days. You purchase some and watch for the price to increase before selling it for a profit.

However, the contrary happens, and you find yourself locked in a losing situation. You observe the decline and then watch for a bullish reversal when you may buy the dip, fooling yourself into thinking you’re getting the asset for a good deal. When the price declines and resumes its downward path, the trap becomes apparent.

Past Bull Traps in the Crypto Market

The 2017 rally that took place in December is one illustration of a previous bull trap in the cryptocurrency market. The FOMO (fear of missing out) among investors caused the surge, which raised the cost of Bitcoin and other cryptocurrencies.

The surge, though, was brief, and soon after, cryptocurrency values started to fall. Investors lost money as a result since they had bought cryptocurrencies at high prices and later sold them.

Another instance of a bull trap from the past happened in June 2019. Following Facebook’s introduction of its Libra cryptocurrency initiative, this rally got underway. The announcement caused a surge in the price of Bitcoin and other cryptocurrencies, which then immediately fell.

There have already been two instances of bull traps in the cryptocurrency market; more are almost certainly to come. Investors must be cautious not to fall into these traps and be aware of them.

How to Identify a Crypto Bull Trap

Investors in cryptocurrencies are constantly watching out for indicators of a bull trap. A bull trap is a deceptive indicator used to lure investors into purchasing a cryptocurrency at its highest price. A token’s price typically crashes after this signal.

when investors buy the dip in advance of a market low. The traders believe that the market’s downward trend has ended. Prudent and wise cryptocurrency traders will set their risk and stop loss just below the previous low once they have taken a long position.

Due to a lack of substantial buyers in the market, the early entry into the trade and false breakout higher cannot be maintained. As a result, pricing is readjusted to lower levels as sellers continue to outnumber available buyers.

The buyer’s issue, however, worsens when his trade starts to float at a slight loss. The buyer’s situation gets worse as market pricing keeps shifting to lower levels.

The stop losses set by the long traders start to be activated as the market starts to trend lower. The trader must sell when a long transaction is stopped out.

More sellers enter the market as the stop loss is activated. Lower prices result from more vendors in the market. This feedback loop has a negative effect on prices, which causes the market to move quickly to the downside.

There are a few key indicators to look out for when identifying a crypto bull trap

• The first is the amount of trading. High volume could indicate that investors are preparing to sell their shares if it is the case.

• The price action is another indicator. Rapid price growth may indicate that the market is becoming overextended and is about to reverse.

When trading cryptocurrencies, investors should take caution, and they should always conduct due research before purchasing any digital assets.

How to Avoid Falling into a Crypto Bull Trap

It’s crucial to do your homework to prevent falling for a crypto bull trap. Keep track of each cryptocurrency’s fundamental metrics at all times. Look closely at the personnel working on the project, the use case, and the overall amount of coins.

Moreover, be cautious not to succumb to FOMO (fear of missing out). Keep in mind that past performance does not guarantee future outcomes.

Do your research before investing in cryptocurrencies to prevent falling victim to a bull trap.

What to do in a Crypto Bull Trap

Crypto bull traps are frustrating, but there are ways to deal with them. It’s a good idea to cut your losses and leave if you find yourself in a crypto bull trap.

Selling when prices are high and buying back later when they have dropped can be a profitable strategy. However, if the market turns against you, it might potentially result in greater losses.

A bull trap occurs when the trend is still downward but the crypto trader is still making purchases. Trading against the trend presents hazards for these traders.

However, a trend may persist for a lot longer than expected. Filtering your trades in the direction of the main trend is the greatest strategy for trading trends. 

For instance, the trend is still lower in the bull trap pattern, thus you need to sift the signals. You are engaging in short-selling trades in this manner.

Finding the resistance levels where you can start a short sell position is therefore essential. If the market makes a higher bounce and displays the bull trap signs previously mentioned, there is a good chance that the trend will continue to be lower.

Additionally, keep in mind that not every dip presents a purchasing opportunity. It’s preferable to wait it out until things calm down because the market can sometimes fall for good reasons.

To Wrap Up

There will be instances when you anticipate a price bounce but are unsure of whether it will be a genuine recovery or if a bull trap pattern is developing.

Until there is sufficient proof that the rising prices appear to have some momentum behind them, we can never really tell in advance.

Know the risks of bull traps and how to avoid them if you’re considering investing in cryptocurrencies. Do your own research, resist FOMO, and keep in mind that past success is not a guarantee of future success.