Glossary
Bull trap
A false breakout above resistance that draws in buyers just before price turns back down.
A bull trap is a move that seems to break out above resistance, signaling a fresh advance, but quickly fails and falls back below the level it just cleared. Buyers who jumped in on the apparent breakout end up holding losses, and their stop-loss selling can deepen the decline. The term also describes a rally inside a larger downtrend that persuades people the bottom is in when it is not.
How it develops
- A stock repeatedly fails near a ceiling, for instance $120.
- It finally closes above it, often on news, attracting breakout buyers and forcing short sellers to cover.
- No follow-through arrives. Within days price slips back under $120.
- Late buyers sell, sometimes all at once as their stops trigger.
Warning signs and defenses
Bull traps can only be confirmed after the fact, but several conditions have often accompanied them:
- a breakout on weak volume, or one that reverses within the same session;
- momentum indicators that make lower highs while price makes a higher high, a bearish divergence;
- a broad market in a downtrend, which drags most individual breakouts down with it;
- a breakout that occurs just before a major scheduled event, such as earnings.
Waiting for a daily close, a second day of strength or a successful retest of the old resistance as support filters out some failures, at the cost of entering later and at a worse price. Tight, pre-planned exits keep the damage small when a trap does happen.