Trading Traps


The tall, handsome matador walks confidently into the arena, bows to his restless audience, then slowly removes his cape, as the eager, oversized bull is released from its pen. The well experienced and highly skilled matador with methodical precision lures the unsuspecting bull into his trap; the beautiful red cape which secretly conceals the bulls sword of death.


As the bull comes rushing in, you've seen and experienced this scene before, you scream "Run bull run...its a trap!" But, the matadors skill is quick and swift as he stabs the unsuspecting bull, bringing him to his knees.


Trap Trading
As a trader, have you ever been caught in a bull or bear trap, tricked into a bad trade, then felt like you had just been dealt a blow below the belt? What is a bull/bear trap, and how do we avoid them? Well, in my experience, you cannot avoid them, they will always catch you and then laugh as they surreptitiously stab you with their agonizingly sharp dagger.


The trick to traps is not to try and avoid them, but to simply learn to understand them, which allows us to change them from a negative trading experience into one of the most powerful and predictable trade signals available.


If traps are so predictable, why do we get caught up in them in the first place?


If you are going to actively trade the markets, avoiding traps is next to impossible, and not really even recommendable, yet once caught in a trap, the predictability of the trap is much easier than our previous decision which stepped us into the trap in the first place, but it is our follow through, after realizing that we have just fallen victim to a market trap, that determines whether we win or lose


In my early days as a trader, I dreaded traps, because I lacked the knowledge on how to handle them, now days, I don't mind a good trap every now and again, in fact, sometimes I even look forward to them, for they can be highly rewarding if you know how to play them correctly. The key to successfully trading traps is to always anticipate one in the first place, have your plan in place so you are ready and waiting to take advantage of the mischievous little devils.


Defining a trap
A trap is when a market fails to follow through in the direction of a chart signal. A failed signal is among the most reliable of all chart signals, it strongly suggests the possibility of a significant move in the opposite direction.


For example.
When a market breaks out of a narrow sideways channel, which is one of the most prominent and reliable market directional signals, but fails to continue in the direction of the breakout, this is what I call a "Trap." Such price action is consistent with the market rising barely enough to activate all those stop orders lying just beyond the boundary of the trading range. When this happens, you just caught the market with its pants down, you've uncovered the secret of the channel; there is no underlying buying pressure to support a continuation of the breakout--which is a strong indication of a very weak underlying fundamental picture. In effect, the immediate failure of the apparent buy signal can be viewed as a strong indication that the market should be sold.





How many times have you been caught in a bull or bear trap, where the initiate signal was given by one of your favorite reoccurring price patterns, you jumped into the market on the breakout, only to find yourself on the wrong side as the market goes off in the opposite direction?


Trading a trap.
I used to get caught in traps so often, that I stopped trading some of the most popular patterns. I got burned in bull and bear traps on 123 tops and bottoms and narrow sideways channels so often, that for a time, I stopped trading them altogether. Now, I simply reverse my position, and catch the ride going the opposite direction.


How do I reverse my position?


Very simple, if I am going long with one contract on a break up and out of a narrow sideways channel, I will place my stop loss with two contracts. This way, if I get caught in a bull trap, and the market quickly changes direction and goes against my initial position, my stop loss order will not only exit my long position, it will also put me into the market going short, which we just discovered is the true direction the market is moving. No more quick reversals that leave me in the dust, I'm there, ready and waiting for the market when it finally decides to reveal its true intentions.


Another example would be if I was going short on a break below the two point on a 123 top formation. When my order to go short one contract is filled, I place a stop loss with two contracts just behind the number three point. Then, if my 123 top formation is violated with a break back above the number three point, my stop loss will automatically reverse my position, and I'll be in the market long.


Consider this strategy,
When you are in the market with a successful trade, and your trailing with your stop loss order, consider trailing it with a reversal stop loss, so that when that market does finally reverse, which would generally close out your successful trade, your reversal stop loss would immediately put you back into the market successfully trading the reversal. If it is a strong enough signal to get you out of the market, it must also be a strong enough signal to get you back in the market going the opposite direction.


I hope this opens some eyes and gives you something to think about when planning your next trade. Remember to consider the fact that failed patterns can actually be one of the strongest indications of the markets true intentions. It is difficult at best to predict market direction, what we need to do is learn how to take advantage of the secret that the market is forced to reveal at this critical stage and capitalize on its vulnerability.


Remember, the spectators, or speculators as it may be, always cheer for the bull and look for him to beat the matador.


Happy trading,
Lan H. Turner, CEO
Gecko Software, Inc.



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