What is a Point & Figure Bear Trap?
The P&F Bear Trap is a buy signal. A bullish reversal pattern, beginning with a fake sell signal. Downside follow-through to the false sell signal is absent. The trap beneath the prior column of Os is traditionally one box in depth, although two boxes are also acceptable. The break down is abruptly reversed, wrong footing inexperienced traders. Trading direction turns back to the upside via the 3 box reversal system. As a result of the turnaround, a failed Double Bottom, Triple Bottom or Quadruple Bottom sell signal is marked up. Bearish trading positions, such as shorts, are trapped, forced to exit at a loss, hence the term Bear Trap.
Point and Figure Bear Traps occur frequently during a bull market but are surprisingly not on the radar of many market participants. This P&F trap is one of our favorite set-ups over the past decade. The bull market since 2008 has been heavily criticized, and disbelieved, resulting in frequent false breakdowns, Bear Traps galore!
Psychology of the Bear Trap
A Bear Trap toys with the mind of the trader. The breakdown south, through support, is convincing yet deceptive.
A trader hits the sell button on the breakdown, either via a short position or closing out an existing long position. Initially, the trader feels excitement since the apparent price fall was followed. However, that elation rapidly switches to remorse as the price sharply reverses course, back to the upside. If short, the trader is now in a losing position, and to avoid losses ballooning, is forced to cover. A short-squeeze tsunami then ensues as very often the majority were wrong footed. Covering shorts trigger a domino-effect. Ironically, the bearish traders feed a rally they failed to envisage.
Recoveries, off a major stock or market bottom, are often sparked by a wave of short covering that was set in motion by a simple Bear Trap.
Factors Influencing Pattern Ferocity
The level at which a Point and Figure Bear Trap appears will greatly influence its personality. Traps across supply and demand battle grounds see greater intensity, faster trading and volume expansion.
P&F Bear Traps often appear across horizontal support. Lateral levels are known and blatant to all market participants. Traders position orders across these levels like sitting ducks. The collective triggering of stop-loss orders results in the volatility spikes that coincide with bear traps.
A further level to observe the trap is across a moving average. The more effective moving averages to watch for this activity are the 10-week and 30-week moving averages.
A one box breach of rising trendline support, could also be deemed a derivative of the Bear Trap, as illustrated below.
Trading a P&F Bear Trap?
Following activation of a Bear Trap pattern, further investigation of the chart is essential.
- The primary price trend for the stock must be up, deduced through the use of trendlines. Trading must be above a bullish trendline.
- Avoid PnF Bear Traps in a bear market situation, since it could be the market double-bluffing. The only time you would consider trading the pattern without a bullish up trend is should the trap occur across a long-term support shelf. However, that would be speculative, so some caution would be necessary.
- Look for other buy signals preceding the P&F Trap, lower down the chart. More previous instances of Bear Traps over the prior months, and years, will collectively add conviction that the trap will succeed.
- A bullish relative P&F chart is important. The relative chart should be trending up on a medium to long-term basis. The only time a weak relative chart would be considered is when it has successfully found a long-term relative horizontal support level.
- Bad news nearly always comes hand-in-hand with a PnF Bear Trap. Investors sell on the news but markets have a tendency to digest events fast. Consequently, the price snaps back aggressively. Therefore sentiment should be considered in tandem with the trap.
The point to enter the P&F Bear Trap is immediately on confirmation. Consider long entry when the 3 box reversal prints following the failure to breakdown from the false sell signal. Trading moves fast due to the resulting short-squeeze. Wise to trade the signal early on when the risk-to-reward ratio is at its best.
Once the Bear Trap is confirmed with the 3 box reversal back up, the pattern is fairly reliable in a bull market.
Where to place a stop-loss?
Initially, one box beneath the column of Os which was responsible for the Bear Trap. Following pattern activation, as the uptrend climbs, the stop could be trailed higher, raised to the box under the next completed column of Os on a pull-back. A retreat of Os would be considered complete when a 3 box reversal prints back to the upside.
How to determine a price objective?
Look for a move up to the next significant level of horizontal resistance, typically the most recent peak.
P&F Bear Trap Explained by Example
Confluence with Trendlines and Moving Averages
Hilton broke down through six prior level columns of Os on October 8th 2019. The drop also breached a Bullish Trendline plus a 30-week moving average. On the surface nasty price action! However, the next session saw no downside follow-through, clueing a potential Bear Trap situation.
Snap-back power of a Bear Trap
Bear Trap as part of a bullish continuation pattern
A common vicinity to anticipate the PnF Bear Trap is across the floor of a bullish continuation pattern. Pauses in a rally are often volatile, with daily swings up and down. The Cintas Corp chart illustrates a two box trap in September 2019. After which, the up trend resumed, aggressively. The failed breakdown wrong footed short traders, who are then forced to cover.
Catalyst to trend commencement
The Bear Trap often precedes a strong up move. Highlighted on the Barrick Gold chart are two PnF Bear Traps, one in 2015, the second in 2019. Each case preceded a sizeable rally. The pattern will trap shorts, as well as force out nervous longs. The healthier pruned price is followed by greater demand.
Relative ratio buy signal
This P&F relative ratio for the Aerospace & Defense ETF illustrates the bullish action following a trap. A failed Triple Bottom was followed by a relentless push higher, still underway several years later.
Bear Trap born from Triple Bottom failure
Hubspot printed a trap pattern in early August 2018. The signal occurred following a failed Triple Bottom that turned tail after a single box fill. Subsequently, the price resumed its yearlong uptrend, hitting $160 in October 2018.
Point and Figure Bear Trap sparks 5 year rally!
Boston Scientific confirmed a Bear Trap buy signal at the start of 2013. A Double Top followed and from there the price took off, rising some 600% over the subsequent 5 years! Great example of the sheer strength that can follow a simple one box trap.