Bull and bear traps are a big part of supply and demand, making them necessary for Order Flow analysis. These are simply moments of failed breakouts at specific chart levels. The concept is that the big players lure unsuspecting traders into these areas, only for the price to move in the other direction.
It’s not only breakouts that are exploited. Bull and bear traps also revolve around ‘stop loss hunting.’ This is a trading strategy where the big players capitalize on a massive number of stop-loss orders to force traders out of their positions.
We made an earlier example about institutions needing to place their trades in small bits. It isn’t necessary for the average person because our lot sizes are small. Therefore, there will always be liquidity when we buy and sell. Yet, it’s different for traders executing lot sizes worth hundreds of thousands or millions of dollars. These entities will need help finding opposing orders to meet this volume. Hunting for stop losses is an effective method for solving this problem.
We should remember that a stop-loss order executes like a regular order. Let’s assume you had a sell position, and the price went up to your stop. When this order is triggered, it converts to a market order for other traders. So, selling at a loss is an opportunity for the rest of the market to buy at this price. Let’s go back to our earlier example; you want to buy 50 lots at $1, but only 20 lots are being sold here.
You’d have to wait until there are enough sellers to fulfil the 50 lots for you to receive the best entry price. Stop losses represent the best way for this to happen, which is made easier as most traders place them at obvious levels.
Of course, it is impossible to see these in real time unless you’re using an advanced order book. The point is that stop losses are used at predictive levels. What does this mean for order flow distribution? As mentioned earlier, the ‘big boys’ execute part of their massive order, which momentarily drives the price to a noticeable point. They will keep the positions open as the market returns to a level with clusters of stop-loss orders.
These areas represent greater liquidity to fill up the rest of their initial order. Here, we expect the market to move at a greater depth than before. Bull and bear traps work well with supply and demand. You’ll see many moments where the price appears to bounce off the same area several times, which you can exploit regularly.
For our examples, we will also combine momentum (using the RSI) and price action to demonstrate bull and bear traps:
A loss of momentum in a zone signifies that a group of traders couldn’t push the price beyond it. This increases the likelihood of a new force becoming dominant.
Price action is another good confirmation factor. It’s common to see candles with long wicks (e.g., pin bars) at zones, expressing the power of the rejection. Yet, other traders use patterns like engulfing candles, three white soldiers/black crows, etc.
Let’s first look at the bull trap on the chart below.