Hence, a false reversal of a declining price trend can be described as the trap. Based on the anticipation of price movements which do not occur, by bear traps, investors can be tempted to take long positions. A decline that induces market participation to open short sales, often triggers a bear trap, which then loses value in a reversal when participants have to cover the shorts.
There might be a lot of investors, in some markets looking to buy stock but there are a lot less sellers who would be ready to accept their bids. The buyers might increase their bid in this case. A bid is the price they are willing to pay stock. More sellers will be attracted to the market due to this, and then the market will move higher due to the imbalance between selling and buying pressure. But since the investors only earn profits when they, when are acquired stocks, they automatically become selling pressure on that stock. Therefore, the buying pressure will diminish if too many people buy the stock, also the potential selling pressure increases.
Institutions might push prices lower so that the market looks bearish in order to increase demand and get stock prices to rise. Novice investors are caused to sell stock due to this. Investors jump back on the market once the stock drops, and with a increase in demand the stock prices rise.
How can bear trap’s affect the investor –
- Due to bear trap, a market could be prompted to expect a decline in the value of a financial instrument, which then prompts the execution of a short position on the asset. However, in this scenario the value of the asset rallies or stays flat, and the participant may be forced to incur a loss.
- In order to retain profits, a bullish trader may ell a declining asset, while, with the intention of buying after the price has dropped to a certain level, a bearish trader may attempt to short that asset. The price reversal is identified as a bear trap, if that downward trend never occurs or reverses after a brief period.
- In order to analyse market trends and to evaluate investment strategies, technical patterns are relied upon by the market participants. By using a variety of analytical tools such as relative strength oscillators, Fibonacci retracements, and volume indicators, technical traders attempt to identify bear traps and avoid them. To help them understand and predict whether the current price trend of a security is sustainable and legitimate. traders can use these tools.
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