What is 'Head-Fake Trade'

A head-fake trade is a trade where a stock or market appears to be making a move in one direction, but then reverses course and goes the opposite way. The head-fake trade gets its name from a tactic commonly used by a basketball or football player to throw the opposition off, by leading with his head to pretend that he is moving in one direction but then going in the opposite direction. The head-fake trade occurs most frequently at key breakout points, such as major support or resistance levels, or moving averages like the 50-day or 200-day MA.

BREAKING DOWN 'Head-Fake Trade'

Consider a situation where a major market index has been hitting new highs amid deteriorating economic fundamentals. Traders who are looking to short the index will be closely monitoring its technical levels to assess whether the advance is beginning to break down. Suppose the index advance stalls and it begins to drift lower, trading below a key short-term moving average. The bears might rush in at this point based on their trading view that the index decline has begun, but if the index subsequently reverses course and heads higher, this would be a classic head-fake trade.

Contrarian traders are more likely to be taken in by a head-fake trade than trend-followers, since a contrarian trading philosophy is based on a willingness to go against the crowd. As traders and investors who fall for the head-fake trade can incur significant losses, an adherence to strict stop-loss limits is necessary in such cases.

What makes breakout trading difficult is that an initial breakout is typically followed by some level of pullback. As price retraces back to the original breakout level or somewhat further, the trader is left to determine whether the breakout pullback is the beginning of a head fake – a false breakout – or whether the pullback is temporary and the market will soon continue in the direction of the breakout. In the latter case, the pullback can be an opportunity to get on a breakout move after it has first developed.

Example of Head-Fake Trades

There was a significant number of head-fakes during the record bull market that commenced in March 2009. Perhaps the best-known example is the "Flash Crash" of May 6, 2010, in which the Dow Jones Industrial Average (DJIA) plunged almost 1,000 points in a matter of minutes in intra-day trading before erasing most of that loss by the close. Traders who may have put on large-scale long-term bearish bets on U.S. equity indices based on the view that the "Flash Crash" portended a new bear market, had the mortification of seeing these indices go on to record highs in subsequent years.

RELATED TERMS
  1. Breakout Trader

    A breakout trader is a type of trader who uses technical analysis ...
  2. Basing

    Basing refers to a period in which a stock or other traded security ...
  3. Bull Trap

    A bull trap is a false signal indicating a declining trend in ...
  4. Buy Break

    A buy break occurs when a stock price moves above its previous ...
  5. Golden Cross

    The golden cross is a candlestick pattern that is a bullish signal ...
  6. Position Trader

    A position trader is a style of trader who holds a position for ...
Related Articles
  1. Trading

    Watch These Stocks for a Breakout

    These stocks are are tight and will eventually breakout out. Here ways to trade them.
  2. Trading

    Watch These Global Market ETFs for Big Breakouts (EWZ, PIN)

    These four global market ETFs are all heading toward breakouts right now. Here's what to watch for, and where these ETFs could be heading next.
  3. Trading

    Watch for Breakouts in Bank Stocks This Week

    These banks are in strong uptrends but have stalled in recent days. Watch for a breakout on a catalyst like the March 15 FOMC announcement. (BAC,C,WFC)
  4. Trading

    Stocks Near Long and Short-term Breakout Levels

    These stocks are near breakout levels both on the long-term and short-term charts, which means a big move could be coming.
  5. Trading

    Trading Failed Breaks

    Learn how to capitalize on the predictable behavior of others during breakouts and breakdowns.
  6. Trading

    Awaiting These Major Breakouts (DIS, NFLX)

    These three stocks are moving in patterns that can't last. Watch for the breakout.
  7. Trading

    4 Bullish Flag Patterns You Should Trade Now

    Here are four stocks with flag patterns, highlighting the various ways to trade this chart pattern.
  8. Investing

    These ETFs are Breaking Out of Chart Patterns Now

    Three buys and one sell; here are four ETFs breaking out of chart patterns right now.
  9. Trading

    Approaching Breakout Points in These Stocks

    These three top-performing stocks are nearing yet another breakout to the upside.
  10. Investing

    Costco Headed for Test of Bull Market High

    Thursday's bullish price action could eventually yield a breakout to an all-time high and strong trend advance.
RELATED FAQS
  1. What is the Volatility Ratio formula and how is it calculated?

    Understand what the volatility ratio indicator is, how it is calculated and the way this technical indicator is used by traders ... Read Answer >>
  2. How do I effectively create a Range-Bound trading strategy?

    Understand the basics of trading range-bound securities, including how to profit from the relative predictability of the ... Read Answer >>
  3. How can I determine a stock's next resistance level or target price?

    Determining where the price of an asset will stop once it has hit a new high is one of the most difficult tasks for any trader. Read Answer >>
  4. How should orders be placed when trying to buy a bounce on a stock?

    Buy stocks on a temporary pullback in price to acquire them at a price level that should be profitable when the stock resumes ... Read Answer >>
  5. What are common trading strategies used in a bull market?

    Discover four commonly used trading strategies by investors and analysts to make profits from a prolonged bull market, including ... Read Answer >>
Trading Center