A crypto fakeout could be a trend anomaly — a random occurrence of events causing the price of an asset to briefly break from its trend, only to come back within range after a while. However, a fakeout could also be induced by illicit activities such as spoofing or wash trading, where traders create fake demand/supply in the market to influence prices. How to spot fakouts and how to limit fakeout losses? Read here-
The term 'fakeout' did the rounds last week when Bitcoin and Ether registered sizeable gains, sparking hopes of a recovery from the current crypto winter. A fakeout is nothing but a failed or false breakout where prices move outside of the trend, creating a notion of a rise or fall in prices. However, shortly after this break from the trend, the price resorts to a similar position as before.
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It is a term that originates from the equity markets but is often used in crypto due to its highly volatile nature. Fakeouts can cause a lot of pain for investors who act on these premature price movements. In some cases, the fakeout may even align with several other technical indicators, instilling further confidence in traders/investors. They may then purchase/short a certain crypto asset, resulting in heavy losses when the price resumes its usual trend.
What can cause a fakeout?
A fakeout could be a trend anomaly — a random occurrence of events causing the price of an asset to briefly break from its trend, only to come back within range after a while. However, a fakeout could also be induced by illicit activities such as spoofing or wash trading, where traders create fake demand/supply in the market to influence prices. These bad actors deceive market participants about an asset's price and make gains from these short-term movements.
How to spot a fakeout?
You can use two indicators to spot fakeouts: trading volume and RSI. Trading volume indicates the amount of a particular crypto being bought and sold during a specific period, usually the last 24 hours. If the price of an asset breaks a trend during low or decreasing trading volume, it is likely to be a fakeout.
On the other hand, RSI stands for relative strength index. It is a technical aspect that indicates the strength and momentum behind a price movement by measuring its speed. RSI is generally plotted beneath the graph of an asset's price. Therefore, if the price begins to break from the trend, but the RSI is showing downward momentum, then you are most likely dealing with a fakeout.
How to limit fakeout losses?
One way to limit the losses in the case of a crypto fakeout is to enter a position with a limited amount of capital and use the stop-loss option to limit potential losses. A good idea will be to set the stop loss a touch below the low of the most recent candlestick if you are going long. On the other hand, you can place the stop loss a little above the high of the most recent candlestick if you're going short.
A potential crypto fakeout can also be averted by considering multiple technical indicators before entering a position. Relying on a single technical analysis is never a good idea, especially in a market as volatile as crypto. If you consider multiple analysis and they all give off the same signal, it indicates the strength of the signal. However, even in this case, there is no guarantee that entering a position will lead to profits. At times, financial markets can behave strangely, and even the strongest signal could turn out to be a crypto fakeout.