A whipsaw is a slang term used by traders that describes the condition of a highly volatile market where a sharp price movement is quickly followed by a sharp reversal.
Sometimes the price just jumps around without any apparent rhyme or reason. Such price action is characterized by trend line violations, false breakouts, and erratic behavior.
Whipsaw comes from the “push and pull” action of the saw that lumberjacks use when cutting wood.
A trader is considered to be “whipsawed” when in a trade and the price is moving in one direction but then unexpectedly moves in the opposite direction.
For example, if a forex trader buys EUR/USD at 1.1200, and over the course of the day the price drops to 1.1050, the trader has been whipsawed.
A whipsaw usually occurs in a choppy market. Short-term traders can be whipsawed often, but long-term traders are likely to see better results due to their long time horizon.
Even though the market seems to be moving sideways, “whipsaws” mean there are big swings up and down within a specific range of trading. This can be good for swing traders who can make money when the market moves up and down. Another way to profit is by buying long straddles in the options market, which can make money when prices go up or down.
Whipsaws can lead to losses for traders because they trigger closing trades, which are quickly reversed. Traders often get stopped out when the market whipsaws, meaning it sharply moves in one direction before returning to where it started. For instance, a stock might whipsaw during an earnings announcement or another event that affects the market. This can trigger stop-loss orders, closing positions even though the stock bounces back afterward.
Some technical indicators help spot a whipsawing market. Envelopes, momentum indicators, parabolic SAR, and the vortex indicator are a few good examples.
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