What is a Dark Cloud Cover Pattern?
A Dark Cloud Cover is a reversal pattern where a red candle opens above the close of the prior green candle and then closes below the midpoint of the green candle. This pattern shows a shift in the momentum from the upside to the downside. The pattern is created by an upwards candle followed by a downwards candle, the third candle is called confirmation.
What Does the Dark Cloud Cover Signal?
The Dark Cloud Cover pattern consists of a large red candle forming a “dark cloud” over the preceding green candle. Buyers push the price higher at the open forming a bullish candle to a gap up, then followed by sellers taking over in the next candle as they push the price lower. The Dark Cloud Cover signals the top of an uptrend and that bears are about to gain control over the market and appears in five criteria:
- Uptrend
- Bullish Candle
- Gap Up
- Bearish Candle
- Close below 50% of the previous day’s Bullish Candle
Trading a Dark Cloud Cover Pattern
Looking at the daily time frame of HUYA we can actually see 3 different indications of a dark cloud cover in this single chart. This pattern is definitely more common in stocks because of their open/close on the weekends and holidays, whereas cryptocurrencies are publicly traded 24/7/365 so it’s near impossible to paint a dark cloud cover. All 3 of these patterns were immediately followed by a bearish reversal, which usually happens right underneath traders noses, hence the name ‘dark cloud cover’.
Looking at the 2-hour time frame of X (United States Steel) we can see a pretty evident Dark Cloud Cover pattern that forms at the local high trading price before a reversal downwards. This pattern is most commonly found near the end of the trading day when all the traders and investors are convinced that the price is going to continue to trend higher the next trading period, when in actuality the market makers paint this ‘cloud cover’ and proceed to dump the price in the next period.
Difference Between a Dark Cloud Cover and a Piercing Line Pattern
A Dark Cloud Cover and a Piercing Line pattern are essentially the same pattern but polar opposites. A Dark Cloud Cover appears at the top of an uptrend while a Piercing Line appears at the bottom of a downtrend. A Dark Cloud indicates bearish momentum while a Piercing Line indicates bullish momentum.
Limitations of the Dark Cloud Cover Pattern
Traders shouldn’t rely their trades solely based on candlestick patterns such as the Dark Cloud Cover. Traders when trading this pattern should look for a relative strength index (RSI) value greater than 70 to check if the asset is overbought. This provides confirmation that the asset is overbought and the dark cloud cover is a valid indicator of a reversal downwards forming a bear market.
