Bull Market and Bear Market: how to spot them
February 9, 2022
The Bitcoin and cryptocurrency markets function very similarly to traditional financial markets. Here’s why the spirit of the bear and the bull have inspired traders to describe market trends.
How financial markets work: cycles
All financial markets, regardless of type, are characterised by a cyclical pattern, i.e. one that always tends to repeat itself over time.
There are mainly 2 major phases that make up the market cycle:
- Bull Market – the price is trending upwards
- Bear Market – the price is trending downwards
These two phases are distinguished by their market trend.
The market trend is the tendency or movement of prices. It can be positive, negative or sideways. The trend is studied for both historical analysis and forecasting.
Looking at price charts, these two types of trends are often highlighted by colours such as green and red, and become easier to spot in a chart showing a long period. An upward price movement is an uptrend, the opposite is a downtrend, while when the price varies its trend continuously it is a sideways or neutral trend.
Market psychology and sentiment are very important in financial markets as they are related to the psychology of investors and their expectations.
Bull Market: the upwards phase
The image of the bull charging ahead and stopping at nothing best describes the prevailing sentiment in this type of market.
In this phase, you can notice:
- the price chart shows a succession of rising lows and highs
- the indicators of technical analysis show confirmations of the bullish phase, anticipated for example by a golden cross.
- The general opinion of investors and financial operators is positive, there is a widespread climate of confidence, optimism and many people want to participate in the market’s successes.
Generally during this phase so-called “retail investors” enter the market, attracted by potential short-term gains.
FOMO is fear of missing out on these gains, and it usually fuels buying and thus the rise in prices. Rightly or wrongly, people think that even though we are entering an upward phase, there will be a further price rise to reward us. The problem is to correctly identify the beginning and end of this phase.
When the market reaches new highs, but the upward momentum of prices gradually begins to lose momentum, institutional investors start to reduce their positions, meaning that they are still taking advantage of the weak (but present) upward pressure.
When the market no longer has the necessary strength to continue to rise, then looking at the graph you can see the top price, that of course can be identified only in retrospect. At this moment the bullish phase has concluded all its movement and therefore since the market is cyclical, there will be a successive bearish phase.
Bear Market: the downwards phase
It is not absolutely easy to understand when one phase is going to end and when the other is going to begin, in fact often the trend changes are not recognised in time by the trader.
As explained in the previous paragraph, after the bull phase, the bearish phase occurs. The price slows down, it proceeds heavily towards “hibernation”.
In a bear market, always observing the charts, you can notice:
- descending highs and lows
- also in this case the technical analysis indicators confirm the bearish trend
- the sentiment is negative and pessimistic
The peculiarity of the bear market phase is that it is self-perpetuating because it generates feelings and emotions of fear and discouragement in investors or traders that lead them to suddenly close their positions. This causes a further lowering of prices, which feeds fear, etc.
It is a different fear from FOMO: in this case it is a fear of losing everything permanently. Both are irrational feelings, but with opposite outlooks.
Those who choose to buy at this stage help to cushion the descent and create price support.
The end of the descending phase is characterised by a general rebalancing of the market, even the expectations of traders begin to be less pessimistic than before. A low is reached, which is also difficult to detect in time. The market is ready for a new cycle.
The Bull Trap and Bear Trap
In both phases of the market, “traps” can occur, i.e. an event that suggests an incorrect interpretation of the facts. This often leads traders to execute wrong actions that result in losses.
A trap occurs when there are signals that run counter to the market phase, e.g. there may be bearish signals when in fact the market is in a bullish phase.
There are 2 kinds of traps, of course:
- Bear Trap – this is the trap that occurs when the market is in a bullish phase. The trader thinks there will be a trend reversal shortly and then acts accordingly (exiting the market, opening a short position or taking some profits). However, the market is in actuality not changing direction and the price continues to rise. The trader then misses the opportunity. One of the signals that could be confusing and lead to error is the ‘fake’ rupture of a support level. During a short dump, prices break through a critical level, but soon resume their climb and regain support. If the initial descent were interpreted as a trend reversal, bearish traders would fall into a bear trap.
- Bull Trap – this trap is similar to the previous one, in fact it basically mirrors it. There is the illusion that the trend is turning from bearish to bullish. The trader then thinks that it is a good time to enter the market, subsequently finds himself losing out because prices continue to fall. Also in this case, the trap can originate from a fake rupture of a resistance level. The prices pump and rise to a critical level but immediately go back down, respecting the resistance and resuming the bearish trend. If the initial price rise were seen as a trend reversal signal, bullish traders would fall into a bull trap.
Is there a way to avoid these traps as much as possible? An infallible method does not exist, however, the use of more technical analysis indicators, together with the study of fundamental analysis and the market can certainly reduce the probability of falling into these two frequent types of traps and consequently commit fewer errors of evaluation.
It is never easy to identify the market trend or to understand when it is changing, however knowing the characteristics of the main phases of a financial market and helping yourself with analytical tools allows you to make the most of both phases and learn to recognise patterns over time.
Bitcoin’s price movement mostly follows the rules of traditional financial markets, the peculiarity is that the time between major phases is greatly reduced because it is a relatively young market.